Download New Zealand: Financial Sector Assessment Program

IMF Country Report No. 17/110
NEW ZEALAND
FINANCIAL SECTOR ASSESSMENT PROGRAM
May 2017
FINANCIAL SYSTEM STABILITY ASSESSMENT
This Financial System Stability Assessment on New Zealand was prepared by a staff team
of the International Monetary Fund. It is based on the information available at the time it
was completed on April 10, 2017.
Copies of this report are available to the public from
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Price: $18.00 per printed copy
International Monetary Fund
Washington, D.C.
© 2017 International Monetary Fund
NEW ZEALAND
FINANCIAL SYSTEM STABILITY ASSESSMENT
April 10, 2017
Approved By
James Morsink and
Odd Per Brekk
Prepared By
Monetary and Capital
Markets Department
This report is based on the work of the Financial
Sector Assessment Program (FSAP) missions that
visited New Zealand in August 16–September 7,
2016 and November 2–17, 2016. The FSAP findings
were discussed with the authorities during the
Article IV consultation mission in March 2017.

The FSAP team was led by Alejandro López Mejía and included Fabiana Melo,
Cristina Cuervo, Caio Ferreira, Lucyna Gornicka, Antonio Pancorbo,
Siegfried Steinlein, Laura Valderrama, Froukelien Wendt (all IMF) and
Michael Andrews, Mimi Ho, Ian Tower, and José Tuya (external experts). The mission
received inputs from Nadine Schwarz and Jonathan Pampolina (both from the IMF
Legal Department), and support from David Jutrsa and others from headquarters.

The mission met the Reserve Bank of New Zealand (RBNZ), the Financial Markets
Authority (FMA), the Ministry of Business, Innovation, and Employment (MBIE), the
Ministry of Justice, the New Zealand Treasury (the Treasury), and the Department of
Internal Affairs (DIA), as well as various market participants. The mission also met
with the Australian Treasury, the Reserve Bank of Australia (RBA), the Australian
Prudential Regulation Authority (APRA), the Australian Securities and Investments
Commission (ASIC), and market participants in Australia.

FSAPs assess the stability of the financial system as a whole. They are intended to
help countries identify key sources of systemic risk in the financial sector and
implement policies to enhance its resilience to shocks and contagion. Certain
categories of risk affecting financial institutions, such as operational or legal risk, or
risk related to fraud, are not covered in the FSAPs system-wide stability analysis.

The IMF Board considered the previous FSAP for New Zealand in 2004. The 2004
FSAP found a well-capitalized banking system, which counterbalanced some
concerns on the lack of active supervision, high dependence on wholesale funding,
and low savings. The status of implementation of the 2004 FSAP’s key
recommendations can be found in Appendix I.

This report was prepared by Alejandro López Mejía and Fabiana Melo with inputs
from the FSAP team members. The report draws on five Technical Notes and two
Detailed Reports on Standards Assessments.
NEW ZEALAND
CONTENTS
Glossary ____________________________________________________________________________________________ 4 EXECUTIVE SUMMARY ___________________________________________________________________________ 6 MACROFINANCIAL SETTING AND RISKS________________________________________________________ 9 FINANCIAL STABILITY AND RESILIENCE ______________________________________________________ 18 Solvency Stress Tests __________________________________________________________________________ 20 Liquidity Stress Tests __________________________________________________________________________ 23 Contagion Analysis ____________________________________________________________________________ 25 FINANCIAL SECTOR OVERSIGHT _______________________________________________________________ 29 Macroprudential Framework __________________________________________________________________ 29 Banking and Insurance ________________________________________________________________________ 31 Capital Markets ________________________________________________________________________________ 33 Financial Market Infrastructures _______________________________________________________________ 34 Financial Integrity ______________________________________________________________________________ 35 Correspondent Banking Relationships _________________________________________________________ 35 CRISIS MANAGEMENT _________________________________________________________________________ 36 BOX
1. Network Analysis of FMIs and their Members _________________________________________________ 34 FIGURES
1. Financial Sector Overview _____________________________________________________________________
2. Financial Soundness Indicators for Banks and Insurance Companies __________________________
3. Banking Sector: Profitability and Balance Sheet _______________________________________________
4. Banking Systems with Significant Presence of Foreign Banks _________________________________
5. Landscape of Systemically Important Financial Market Infrastructures ________________________
6. Financial Sector Vulnerabilities ________________________________________________________________
7. FSAP Stress Test Scenarios ____________________________________________________________________
8. Results of the FSAP Solvency Stress Test – Adverse Scenario _________________________________
9. Sensitivity Tests ________________________________________________________________________________
10. Liquidity Stress Test Results __________________________________________________________________
11. Cross-Border Spillovers ______________________________________________________________________
12. Housing Sector Risks _________________________________________________________________________
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11 13 14 15 16 18 21 23 24 26 28 30 NEW ZEALAND
TABLES
1. 2016 New Zealand FSAP: Key Recommendations _______________________________________________ 8 2. Selected Economic Indicators, 2012–2022 _____________________________________________________ 10 3. Financial Soundness Indicators, 2010–2016 ___________________________________________________ 12 4. Systemic Indicators for FMIs ___________________________________________________________________ 16 5. Risk Assessment Matrix (RAM) ________________________________________________________________ 19 APPENDICES
I. Implementation Status of 2004 FSAP Recommendations ______________________________________ 38 II. Overview of FSAP Stress Testing_______________________________________________________________ 42 III. Stress Test Matrix (STeM): Solvency and Liquidity Risks ______________________________________ 43 IV. The RBNZ and the IMF Stress Tests ___________________________________________________________ 51 V. Report on the Observance of Standards and Codes: Basel Core Principles for Effective Banking
Supervision—Summary Assessment _____________________________________________________________ 53
VI. Report on the Observance of Standards and Codes: Insurance Core Principles—Summary
Assessment ______________________________________________________________________________________ 75
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Glossary
AMI
AML/CFT
APRA
ASIC
AUD
CCB
CCP
CIMA
CFR
CoFR
CoVaR
CPSS
ESAS
ERM
FCR
FMA
FMI
FSB
FSO
GFC
HVCS
IAIS
IOSCO
IPSA
LCH
LCR
LGD
LVR
LTV
MBIE
MOU
MOC
MoF
NBLI
NSFR
NZCDC
NZD
NZX50
OBR
OMO
4
Allied Mutual Insurance
Anti-money laundering and countering the financing of terrorism
Australian Prudential Regulation Authority
Australian Securities and Investments Commission
Australian Dollars
Capital Conservation Buffer
Central Counterparties
Corporations Investigation and Management Act
Core Funding Ratio
Council of Financial Regulators
Conditional Value at Risk
Committee on Payment and Settlement Systems
Exchange Settlement Account System
Enterprise Risk Management
Financial Condition Report
Financial Markets Authority
Financial Market Infrastructure
Financial Stability Board
Financial System Oversight (Committee) (RBNZ)
Global Financial Crisis
High Value Clearing System
International Association of Insurance Supervisors
International Organization of Securities Commissions
Insurance (Prudential Supervision) Act 2010
London Clearing House
Liquidity Coverage Ratio
Loss-Given Default
Loan-to-value Ratio
Loan-to-value
Ministry of Business, Innovation, and Employment
Memorandum of Understanding
Memorandum of Cooperation on Trans-Tasman Bank Distress Management
Minister of Finance
Nonbank Lending Institutions
Net-Stable Funding Ratio
New Zealand Clearing and Depository Corporation
New Zealand Dollar
NZX 50 Index (main stock market index in New Zealand)
Open Bank Resolution
Open Market Operation
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ORRF
PFMI
PNZ
PRESS
iPRESS
RFA
RBA
RBNZ
SBI
TAF
TTBC
Overnight Reverse Repurchase Facility
CPSS-IOSCO Principles for Financial Market Infrastructures
Payments New Zealand
Proportionate Risk Evaluation Surveillance System
Insurance–Proportionate Risk Evaluation Surveillance System
Registered Financial Advisers
Reserve Bank of Australia
Reserve Bank of New Zealand
Settlement Before Interchange
Term Auction Facility
Trans-Tasman Banking Council
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EXECUTIVE SUMMARY
Imbalances in the housing market, banks’ concentrated exposures to the dairy sector, and
their high reliance on wholesale offshore funding are the key macrofinancial vulnerabilities in
New Zealand. The banking sector has significant exposures to real estate and agriculture, is
relatively dependent on foreign funding and is dominated by four Australian subsidiaries. A sharp
decline in the real estate market, a reversal of the recent recovery in dairy prices, a deterioration in
global economic conditions, and a tightening in financial markets would adversely impact the
system. The key risks faced by the insurance sector relate to New Zealand’s vulnerability to natural
catastrophes.
Despite these vulnerabilities, the banking system is resilient to severe shocks. Results of stress
tests and sensitivity analysis across all relevant risk factors indicate that the solvency and liquidity of
the banking system can withstand adverse and severe shocks. In addition, there is a limited impact
of solvency and liquidity contagion from direct exposures to banks and nonbank financial
institutions, common holdings of securities, and market contagion. That said, the results from stress
tests, although a useful supervisory tool, need to be interpreted with caution and the authorities can
strengthen the financial sector oversight and crisis preparedness frameworks to further improve the
resilience of the system.
Strengthening the macroprudential framework is important. The financial system is dominated
by four major banks with similar business models in which the majority of assets are associated with
housing loans. Direct exposures among them are relatively limited, but the potential for spillovers is
elevated. Credit has resumed strong growth during the last few years, putting pressure on funding
and increasing concerns with the housing sector. So far, the authorities have applied exposure limits
to loans with high loan-to-value ratios (LVR) which, while strengthening the profile of banks’
portfolios, have had limited effects given rising housing prices. Adding a debt-to-income cap to the
macroprudential toolkit would enhance systemic resilience by limiting the risks from growing
household indebtedness. Imposing additional loss-absorbency requirements for domestic systemic
banks, and allowing an effective accountability of the RBNZ without jeopardizing the integrity and
independence of its macroprudential decision-making process are also recommended.
The approach of the RBNZ to supervision should be strengthened by increasing the weight of
regulatory discipline in its three-pillar framework. The RBNZ approach to supervision relies on
three pillars: self, market, and regulatory discipline. The authorities have strengthened regulatory
discipline since the last FSAP, but the three-pillar framework should be improved by adopting a
more intensive approach to supervision. This would increase the ability of supervisors to be
proactive to exercise regulatory discipline and obtain reliable information to enforce self- and
market-discipline. The RBNZ is encouraged to issue enforceable supervisory standards on key risks,
review the enforcement regime to promote preventive action, and initiate on-site programs targeted
on areas of high risk. In addition, clarifying the responsibilities of the Treasury and RBNZ on financial
sector issues and reinforcing the role and autonomy of the RBNZ as prudential regulator and
supervisor would enhance the ability of the RBNZ to respond swiftly to ongoing and emerging risks.
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Increasing supervisory resources for all financial sectors is key. This would support the highly
qualified RBNZ staff in improving the effectiveness of the supervisory process, enhancing their
knowledge of financial institutions’ operations, and deepening risk assessment of supervised
entities—and strengthening their ability for early preventive action.
The proposed reforms to the regulatory and oversight framework for Financial Market
Infrastructures (FMIs) will get New Zealand broadly on par with international standards. The
proposed regime will provide the authorities with the legal basis for the oversight of systemically
important FMIs, and with a graduated range of enforcement, crisis management, and regulatory
powers. The authorities are encouraged to adopt international principles for FMIs in secondary
legislation to provide for a transparent set of requirements to the industry and allow a consistent
implementation of international standards among all systemically important FMIs.
The reform of securities market regulation significantly improved the framework, but further
enhancements are required. The review of the regulatory framework was instrumental in
implementing key reforms, including the establishment of the FMA as conduct regulator. The new
regime governs how financial products are offered, promoted, issued and sold, and introduces
licensing for providers of certain products, including managers of retail funds. The regulatory
perimeter could be reviewed to include wholesale asset managers and custodians, whose activities
will become more relevant as the asset management industry matures, bringing potential new risks.
There is also a need to enhance conduct regulation in the insurance sector.
The crisis resolution framework needs to be enhanced further. The Open Bank Resolution (OBR)
framework, which aims to avoid the use of public funds when resolving systemically important
banks, is a step in the right direction. To enhance its credibility and strengthen the financial safety
net, the introduction of deposit insurance would be the best option. Absent support for deposit
insurance, a second option is to legally establish a de minimis exemption from freezing and
haircutting deposits in OBR, set at an appropriate level. The decision-making process in a crisis and
the exercise of resolution powers need to be clarified. The RBNZ should be the sole resolution
authority, with clear mandates and responsibilities, requiring the approval of the Minister of Finance
(MoF) only for resolutions with fiscal or systemic implications.
The home-host relationships between Australia and New Zealand are well above international
practice, but stronger collaboration would enhance synergies. The RBNZ could take a more
proactive role in collaborative supervision. The scope of the Memorandum of Cooperation on TransTasman Bank Distress Management (MOC) could be extended to include insurance companies and
FMIs. Moreover, further work on the trans-Tasman framework for assessing systemic importance
and discussing possible coordinated responses would support timely and effective decision-making
in an actual crisis.
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Table 1. 2016 New Zealand FSAP: Key Recommendations
Financial Stability and Financial Sector Resilience
Increase RBNZ resources for the supervision and regulation of banks, insurance companies, and FMIs (¶30, 36).
Strengthen cooperation and collaboration arrangements with Australian authorities (¶32).
Time1
ST
ST
Clarify responsibilities of the Treasury and RBNZ on financial sector issues to reinforce the role of RBNZ as
prudential regulator and supervisor (¶31, bullet 4).
ST
Issue enforceable standards on key risks, governance, risk management, and controls to make RBNZ’s
supervisory expectations more transparent and support supervisory preventive action (¶31, bullet 1).
ST
Review and extend the enforcement regime to promote preventive action and enhance sanctions powers,
including by eliminating ministerial consent for directions, and making compliance with RBNZ policy
documents evidence of prudent practice (¶31, bullet 2).
MT
Initiate on-site programs to test the foundation of the three pillar approach and directors’ attestations, and
increase supervisory engagement with institutions in order to require appropriate action (¶31, bullet 3).
ST
Refine FMA supervision by a) direct monitoring of aspects of asset management relevant to financial stability;
b) ensuring quality of Financial Markets Supervisors; and c) enhancing insurance intermediary and conduct
regulation and supervision (¶30, 34).
Expand the FMA's regulatory perimeter to include licensing and supervision of custodians and appropriate
oversight of wholesale asset managers (¶35).
Adopt and implement proposed FMI legislation on regulation, oversight, and enforcement powers (¶36).
I
ST
I
Adopt the PFMI through detailed requirements in secondary legislation; change the frequency of FMI selfassessments in the proposed regime from three to two years; and enhance compliance of the designated FMIs
with PFMI requirements (¶37).
ST
Ensure that designated nonfinancial businesses and professions are subject to AML/CFT requirements,
particularly company service providers, lawyers, and accountants (¶39).
MT
Expand data collection and modeling efforts to develop structural models for credit risk in commercial real
estate (CRE) and corporate portfolios (¶13).
MT
Macroprudential Framework
Strengthen arrangements for macroprudential policy by increasing communication efforts; by increasing the
transparency of the process to adjust the framework; and by maintaining an accountability framework that
does not jeopardize the integrity and independence of the macroprudential decision-making process (¶23).
C
Introduce DTI measures in the macroprudential toolkit (¶25).
I
Implement DTI measures if the changes to the LVR do not reduce the risks in the housing sector (¶25).
I
Increase capital buffer requirements to reflect the concentration of the financial sector in four banks (¶26).
I
Crisis Readiness, Management, and Resolution
Strengthen domestic crisis management arrangements by reaching ex ante agreement on roles,
responsibilities, and processes; prepositioning, mobilization, logistics, and communications plans; and testing
through simulation exercises (¶42).
MT
Reconsider the merits of deposit insurance, or in the absence of policy support, introduce a limited depositor
preference to provide legal certainty for the de minimis exemption in OBR (¶44).
MT
Revise the RBNZ Act to provide greater clarity and certainty in resolution, by inserting objectives in resolution
including protection of depositors and the public interest and requiring accountability reporting against these
objectives; by clarifying that the RBNZ is the sole resolution authority, and inserting an express requirement for
ministerial consent for resolutions with fiscal or systemic implications only (¶42).
1
C = continuous; I (immediate) = within one year; ST (short-term) = 1–3 years; MT (medium-term) = 3–5 years.
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MT
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MACROFINANCIAL SETTING AND RISKS
1.
Since 2011, New Zealand has enjoyed an expansion that has recently gained
momentum (Table 2). Construction has been a major driver, with strong net migration and low
interest rates amplifying the momentum. Growth is expected to remain at above 3 percent in 2017,
well above trend. In the medium term, growth is projected to moderate in the face of net migration
normalizing, earthquake reconstruction spending declining, and interest rates rising. Inflation is
expected to gravitate toward the mid-point of the 1–3 percent target range of the RBNZ. External
shocks are the main source of downside risks.
2.
The financial sector in New Zealand is dominated by banks, focuses its activities on
lending to the domestic private sector, and is characterized by the importance of four
Australian subsidiaries. Banks represent about 75 percent of total financial assets (Figure 1). The
sector seems well capitalized and liquid, nonperforming assets are low, and profitability has
remained broadly stable (Table 3 and Figures 2 and 3). Foreign funding accounts for almost
20 percent of banks’ liabilities. The system is concentrated on four subsidiaries of the largest
Australian banks, whose share in the banking sector’s total assets was 86 percent at end-2016 and
represent a significant share of parents’ assets. The systemic importance of these subsidiaries for the
parent banks, which are all systemic for the home supervisor as well, makes New Zealand-Australian
interdependence unique among other countries with high foreign bank presence (Figure 4).
Nonbank financial institutions (NBFI) have more than halved in size since 2007. Nonbank lending
institutions (NBLI) are savings institutions (credit unions and building societies), deposit-taking that
fund their activities via deposits or debentures issued to the public and non-deposit taking finance
companies. Most are domestically-owned.
3.
The insurance sector is small and characterized by high concentration and an extensive
presence of foreign (mainly Australian) insurers. There are 96 licensed insurers, with 76 percent
of premium income being from branches or subsidiaries of foreign insurers. The largest insurer, an
Australian group, accounts for almost half of total non-life premium income. Only about half of
non-life premium income is written by the private sector, reflecting the migration of savings from
insurance to investment products and the important role played by government in coverage of
particular risks which it finances by levies: the Accident Compensation Commission (ACC) provides
extensive coverage for personal injury insurance, and the Earthquake Commission (EQC) provides
first loss cover for losses from earthquakes and other specified natural hazards for insured
residential properties.1
4.
The capital market of New Zealand is small but has been growing in recent years, with
an increase in managed funds. The listed stock market capitalization was 42 percent of GDP in
2015, and the total amount of bonds outstanding in the local market was 50 percent of GDP. The
bond market is dominated by central government issues and financial institutions. Since 2004, the
1 ACC and EQC have been excluded from the scope of the insurance sector work in the FSAP owing to the nature of
their functions which is similar to social insurance schemes: both are funded by compulsory levies on individuals,
employers, insurance policies, and trade licenses (among others).
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NEW ZEALAND
share of primary listings’ holdings by domestic institutional investors increased 9 percentage points
to around 40 percent in 2014. The number of transactions in secondary markets increased since
2010—almost threefold on the main stock market index in New Zealand (NZX 50). This increase has
been fostered by the creation of the KiwiSaver scheme, partial privatization of state-owned
enterprises and low global and domestic interest rates.
Table 2. New Zealand: Selected Economic Indicators, 2012–2022
Population, millions (Dec 2015):
Quota (in SDR millions):
Main Exports:
Key Export Markets:
Nominal GDP per capita, USD (2016):
GINI Coefficient (2012):
4.6
1,252.1
Dairy, meat, forest products
China, Australia, E.U., U.S.
37,056
33 percent 1/
2012 2013 2014 2015 2016
2017 2018 2019 2020 2021 2022
Projections
Output
Real GDP Growth, Production (in percent)
2.5
2.2
3.4
2.5
3.1
3.1
3.0
2.6
2.6
2.6
2.5
Employment
Unemployment (in percent of labor force)
6.4
5.8
5.4
5.4
5.1
5.0
4.8
4.8
4.8
4.8
4.9
Prices
Consumer Prices (percentage change)
1.1
1.1
1.2
0.3
0.6
1.5
2.0
2.0
2.0
2.0
2.0
34.0
35.9
-1.9
31.3
33.9
34.9
-1.0
30.0
33.9
34.2
-0.3
29.5
34.9
34.2
0.7
29.6
34.8
34.2
0.6
29.5
34.2
33.7
0.5
27.4
34.0
32.6
1.4
23.7
34.0
32.0
2.0
21.2
34.1
31.5
2.6
18.7
34.1
31.2
2.9
15.5
34.0
31.2
2.8
12.4
2.5
3.7
2.5
5.1
3.1
4.5
3.2
8.4
2.1
7.5
1.8
6.1
2.3
5.5
2.7
4.8
3.0
4.7
3.0
4.8
3.0
4.8
General Government Finances (in percent of GDP) 2/
Revenue
Expenditure
Fiscal Balance 3/
Public Debt (Gross)
Macro-financial
Reserve Bank of New Zealand Policy Rate (percent, average)
Credit to the Private Sector (percentage change)
Balance of Payments (in percent of GDP, unless otherwise indicated)
Current Account
-3.9 -3.2 -3.2 -3.4 -2.7
FDI
-0.1 -0.7
0.7
0.1 -0.4
Gross Official Reserves (in months of prospective imports)
4.1
3.7
3.6
3.8
4.2
Net External Debt
-78.2 -71.5 -68.8 -66.0 -65.7
Exchange Rate
Real Effective Exchange Rate
108
111
115
109
109
Sources: Data provided by the New Zealand authorities; OECD and IMF staff estimates and projections.
1/ OECD Income Distribution and Poverty Database. New definition, post- taxes and transfers.
2/ Calendar year.
3/ Fiscal balance equals revenue less expenditure; expenditure includes net capital investment.
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-2.5 -3.1 -3.3 -3.4 -3.5 -3.5
0.7
0.6
0.6
0.6
0.6
0.6
…
…
…
…
…
…
-65.3 -65.6 -66.1 -66.6 -67.2 -67.6
…
…
…
…
…
…
NEW ZEALAND
Figure 1. New Zealand: Financial Sector Overview
Financial intermediation takes places primarily through the banking sector, which mostly focuses on domestic lending.
The financial system is dominated by banks…
…which have been growing since 2006.
Evolution of the financial system
Financial system in New Zealand
(In percent of GDP)
(In percent of total financial assets, September 2016)
10
4
5
5
2
Sept 2016
Banks
Banks
173.9
197.5
Non-bank lending institutions
Private insurance*
13.7
12.5
Kiwisaver
Nonbank lending institutions
15.7
5.4
Managed funds and trusts, including:
41.9
54.5
13.0
24.8
Other private superannuation
74
2006
KiwiSaver** and other superannuation
Private insurance (end 2015)
Managed funds net life
insurance and superannuation
Retail and cash management trusts
12.3
17.1
Other funds and trusts
16.6
12.5
* Data as of 2011 and as of 2015; ** Opened in 2007.
Stock market capitalization remains low compared to other
countries…
…and so does the size of the private insurance sector.
Private insurance premiums in selected countries
Stock market capitalization in selected countries
(In percent of GDP, 2014)
(In percent of GDP)
14
Switzerland
12
United States
Japan
10
Canada
8
Korea, Rep.
6
Australia
Germany
4
Norway
2
New Zealand
2006
2015
0
Austria
0
50
100
150
200
250
United
Kingdom
300
United
States
Germany
Australia
Canada
New
Zealand
Managed funds are the largest nonbank financial institutions.
Assets of non-bank and other financial institutions1/
60
(In percent of GDP)
50
2006
40
Jun-16
30
20
10
0
Deposit-taking
finance companies
Non-deposit taking Savings institutions
finance companies
Managed funds
1/ Excluding insurance. Non-bank lending institutions consist of: deposit-taking finance
comapnies, non-deposit taking finance companies and savings institutions.
Sources: RBNZ and IMF staff calculations.
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Table 3. New Zealand: Financial Soundness Indicators, 2010–20161/
2010
2011
2012
2013
2014
2015
2016Q3
Interest rates (percent end-year)
90-day bank bill rate
3.0
2.8
2.7
2.7
3.4
3.2
2.5
90-day bank bill rate, real
0.7
-1.2
1.6
1.5
2.2
2.9
2.2
2.4
-1.0
24.2
16.5
17.5
13.6
8.8
Stock market index (percent change, end-year)
Capital adequacy (in percent)
Regulatory capital to risk-weighted assets
12.8
13.3
13.1
12.5
12.4
13.5
13.1
Tier I capital to risk-weighted assets
9.8
10.6
11.5
11.4
11.4
12.1
11.9
Capital to assets
7.4
7.9
8.2
8.7
8.4
8.2
8.0
2.1
1.7
1.4
1.0
0.8
0.5
0.5
Asset quality (in percent)
Non-performing loans to total loans
Non-performing loans net of provisions to capital
18.7
13.7
9.8
6.9
5.4
3.9
4.2
6,255
5,239
4,312
3,380
2,790
2,000
2,087
16.5
16.9
16.2
16.2
15.7
15.0
14.0
7.3
9.3
7.9
7.0
6.9
6.3
5.2
81.2
82.8
85.6
85.5
86.3
85.8
86.3
-
69.6
70.6
72.6
73.4
73.7
71.8
27.4
24.3
21.6
20.3
20.1
19.6
19.8
Agricultural
15.8
15.5
15.7
15.5
15.5
15.6
15.3
Business
24.2
24.3
24.3
24.0
24.0
23.8
23.7
Households
60.0
60.1
60.0
60.5
60.5
60.5
61.0
55.6
55.8
55.7
56.3
56.3
56.4
57.1
Non-performing loans (in millions of NZ$)
Liquid assets to total assets
1-month maturity mismatch (in percent)
Core funding ratio
Customer deposits to total loans
Off-shore wholesale funding to total liabilities 2/
Asset composition (in percent of total)
Of which: Housing
Profit Ratios (in percent)
Return on assets
0.8
1.2
0.9
1.1
1.1
1.0
0.9
Return on equity
11.2
16.1
11.4
13.9
14.1
12.0
11.9
2.2
2.3
2.2
2.2
2.4
2.3
2.1
Net interest margin
Sources: Data provided by the New Zealand authorities and IMF staff estimates.
1/ Capital adequacy measures, NPLs net of provisions to capital, liquid assets, 1-month mismatch ratio, core funding ratio, and return
on equity are calculated for locally incorporated banks only.
2/ proxied by the share of foreign-currency-denominated liabilities to total liabilities
12
INTERNATIONAL MONETARY FUND
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Figure 2. New Zealand: Financial Soundness Indicators for Banks and Insurance Companies
Banks and insurance companies appear to be sound.
While banks hold capital buffers well above regulatory
minima…
…this may reflect increased issuance of hybrid debt.
Capital ratios of New Zealand banks
(In percent of risk-weighted assets)
Capital ratios of banks in New Zealand
(In percent of risk-weighted assets)
16
14
14
12
12
10
10
8
8
6
6
4
Capital conservation buffer
Tier 1 capital
CET1 capital
Banks’ levels of stable funding are above regulatory
minima…
BNZ
Westpac
2015
2014
2013
2015
2014
2013
2015
2014
2013
2015
2014
ASB
NZ-owned
banks
CET1
AT 1
Tier 2
CET1 min + buffer
Tier 1 min + buffer
Total min + buffer
…they have sufficient holdings of liquid assets to shortterm liabilities according to the New Zealand-specific
metrics...
Banks' core funding ratio
Mismatch ratios of the banking sector
(In percent of total loans and advances)
100
2013
ANZ
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 Sept.
2016
Minimum Tier 1
2015
2013
0
2014
4
2
(Excess liquid assets in percent of total funding)
10
9
90
8
80
7
70
5
6
4
60
3
2
50
1
0
40
2010
2011
2012
2013
2014
2015
Minimum core funding ratio
2016
2010
2012
2013
2014
2015
4
3
2
1
2016
One-month mismatch
6,000
160
5,000
155
4,000
150
3,000
145
2,000
140
1,000
135
0
Consumer
loans
2015
(in millions USD)
5
Housing
2014
Capital adequacy of insurance sector
6
2011
2013
The insurance sector has remained well-capitalized since
the introduction of prudential regulations in 2010.
Banks' non-performing loans
(In percent of total sectoral loans)
2010
2012
One-week mismatch
Core funding ratio
…and asset quality is high too.
2011
Commercial
real estate
Agriculture
Corporate
2012
2013
2014
2015
130
Total Solvency Capital
Minimum Solvency Capital
Capital Adequacy Ratio (in percent, RHS)
Sources: RBNZ and IMF staff estimates.
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Figure 3. New Zealand: Banking Sector: Profitability and Balance Sheet
While offshore funding has decreased somewhat since the GFC, it still plays an important role.
Bank profitability has remained stable over the last 10 years.
Number of banks
Total assets (in percent of GDP)
2005
2010
2015
September 2016
16
19
25
24
156.7
193.2
194.8
198
Return on assets
1.2
0.8
1.1
0.9
Return on equity
15.2
11.2
14.1
11.9
2.4
2.2
2.4
2.1
Net interest margin
Assets are dominated by claims to the domestic economy…
New Zealand banks' claims by sector
(In percent of total bank claims, November 2016)
4
5
14
21
53
3
… and while the role of short-term, offshore funding has
decreased, bank liabilities are still mostly short-term.
Maturity structure of banks' funding
(In percent of total liabilities net equity)
100
Agriculture
80
Housing
60
Consumer
40
Corporate
20
Financial institutions
0
2006
Other
The banking sector is highly concentrated in subsidiaries of
four Australian banks…
Lending to the economy by the type of institutions
(In percent ot total lending, June 2015)
May 2016
NZ$ < 1 year
NZ$ 1-3years
NZ$ > 3 years
Foreign < 1 year
Foreign 1-3 years
Foreign >3 years
… which constitute significant shares of parents’ assets.
New Zealand subsidiaries of Australian banks
(Share in parent's assets and profits, as of last annual report)
ASB
BNZ
Bonds, 4
Big Four, 87
Banks, 94
NBLIs, 2
Other, 13
Westpac
ANZ
0
3
6
9
12
15
18
Subsidiary's profit as percent of parent's profit (ASB - June 2016, rest Sept. 2015)
Subsidiary's assets as percent of parent's assets (ASB - June 2016, rest Sept. 2015)
Sources: RBNZ and IMF staff estimates.
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Figure 4. New Zealand: Banking Systems with Significant Presence of Foreign Banks
New Zealand’s interdependence with Australia is unique among countries with a strong presence of foreign banks.
Australian subsidiaries (including branch assets of dual-registered banks) account for 86 percent of New Zealand banking
sector’s assets, compared to 41 percent for Spanish banks in Mexico and 35 percent for the Swedish bank in Finland.
Subsidiary's assets
(In percent of host country's banking sector assets)1/
50
40
30
20
10
New Zealand
Finland
Mexico
Slovakia
Raiffeisen (AUT)
UniCredit (IT)
Societe Gen (FRA)
KBC (BEL)
KBC (BEL)
Intesa (IT)
Raiffeisen (AUT)
Citi (USA)
Santander (ESP)
BBVA (ESP)
Danske (DNK)
Nordea (SWE)
ASB (AUS)
BNZ (AUS)
Westpac (AUS)
ANZ (AUS)
0
Czech Republic
1/ New Zealand, Finland, Mexico, Slovakia, Czech Republic are host countries. Home countries are provided
in parentheses. In all cases parent banks exceed 10 percent share of the home country's banking sector. For
Nordea the figure shows percent of bank lending and deposit-taking activity in Finland.
There are several countries where local subsidiaries account for a significant share of their parents’ operations, but usually
parent banks of locally-important subsidiaries are from different countries.
Subsidiary's assets
(In percent of parent bank's assets)1/
20
10
New Zealand
Finland
Mexico
Slovakia
Raiffeisen (AUT)
UniCredit (IT)
Societe Gen (FRA)
KBC (BEL)
KBC (BEL)
Intesa (IT)
Raiffeisen (AUT)
Citi (USA)
Santander (ESP)
BBVA (ESP)
Danske (DNK)
Nordea (SWE)
ASB (AUS)
BNZ (AUS)
Westpac (AUS)
ANZ (AUS)
0
Czech Republic
1/ New Zealand, Finland, Mexico, Slovakia, Czech Republic are host countries. Home countries are provided
in parentheses. In all cases parent banks exceed 10 percent share of the home country's banking sector.
For Nordea the figure shows percent of the Nordea group lending attributable to the Finnish subsidiary.
Source: IMF staff estimates.
5.
FMIs are of systemic importance at a national level, while the derivatives market is
increasingly dependent on FMIs that are operated abroad. Several domestic and foreign FMIs
are relevant for the economy in New Zealand (Table 4 and Figure 5). Derivative transactions of
New Zealand banks are increasingly cleared by foreign central counterparties (CCPs). This is a direct
consequence of the G20 mandate to clear standardized over-the-counter derivatives through CCPs.
Although New Zealand is not a G20 member, many foreign derivative counterparties are required to
clear centrally and so New Zealand banks are ensuring that they have the same capability.
INTERNATIONAL MONETARY FUND
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NEW ZEALAND
Table 4. New Zealand: Systemic Indicators for FMIs
Exchange
Settlement
Account System
(ESAS)
NZClear
New Zealand Clearing
and Depository
Corporation (NZCDC)
Settlement Before
Interchange (SBI)
High Value Clearing
System (HVCS)
Size of daily
settlement value
2015 (percent of
GDP).
Interconnectedness
of financial
institutions.
30 billion NZD (12
percent).
7 billion NZD
(3 percent).
Securities: 85 million NZD;
derivatives: 900,000 NZD
(<0.5 percent).
3.6 billion NZD (1.4
percent).
24 billion NZD (9.8
percent).
19 direct members,
indirectly serving
most financial and
nonfinancial
institutions.
5–8 direct members
(depends on service) and
indirectly serving other
financial and nonfinancial
institutions.
8 direct members,
indirectly serving
households,
corporates and
financial institutions.
13 direct members,
indirectly serving
households, corporates
and financial
institutions.
Critical to other
FMIs.
Substitutability
Critical to NZClear,
SBI, HVCS, CLS.
Commercial banks
128 direct
members,
indirectly serving
other financial
and nonfinancial
institutions.
-
CCP depends CSD within
NZX Group
NZClear
-
Types of markets
served.
Other critical
functions.
All interbank
transactions.
Critical for
monetary policy
operations.
NZCDC
Bond and equity
markets.
Critical for
monetary policy
operations and
collateral
management.
Equity and derivatives
markets.
Relevant for collateral
management.
HVCS
SBI
Interbank settlement
retail trades.
-
Interbank settlements.
Settlements for
housing market.
Figure 5. New Zealand: Landscape of Systemically Important Financial Market Infrastructures
Financial Market Infrastructures in New Zealand are highly connected.
Retail payments
Source of
transfers:
Cards,
ATM,
POS
Electronic
fund
transfers
Large value payments
Corpo
-rates
Interbank
Government
FX
Securities
Derivatives
NZX
OTC
market
OTC market
DTCC
Singapore
Clearing
system:
SBI
NZCDC
HVCS
CCP
CLS
Securities/
FX
settlement
system:
Cash
settlement
system:
ESAS
(RTGS payment system)
Systemically important FMIs inside New Zealand
Systemically important FMIs outside New Zealand
Source: IMF staff analysis.
16
INTERNATIONAL MONETARY FUND
NZClear
Foreign
CCPs
(e.g.
LCH.Clearnet
Ltd, ASX
Clear Futures)
CSD
Commercial banks
NEW ZEALAND
6.
The vulnerabilities of the New Zealand financial system are largely associated with
concentrated exposures to the real estate and agriculture sectors, dependence on wholesale
funding, and the similar business models of the four Australian subsidiaries. In particular:

The banking sector exposure to residential mortgages reached over 50 percent of total
claims at end-2015. Low global and domestic interest rates for the last few years are a main
driver behind the observed increases in mortgage lending.2 While low interest rates facilitate
debt repayments by the existing mortgage borrowers, rising housing prices have elevated the
debt-to-income ratios of new house buyers. The rise in real estate prices has been most rapid in
Auckland (Figure 6). The property boom has been driven also by increased investor activity.

The banking sector has a large concentration of loans to the agricultural sector. Agriculture
credit exposure, with the dairy industry accounting for more than two-thirds, stood at
15 percent of total exposures in 2015. Low global milk prices have put significant financial
pressure on dairy farms, with half of the sector having experienced a second consecutive season
of operating losses. However, prices have recently recovered and, according to the most recent
forecasts, the effective payout for the dairy industry will increase above the break-even price in
the next season. Nonetheless, the already high dairy-farm debt relative to trend income has
increased recently, and remains a source of risk.3 Credit risk concerns in other sectors are limited,
with corporate lending growing at around 5 percent in 2016 (compared to 15.6 percent during
January 2007–July 2008), and low debt-to income ratios hovering around 16 percent.

The financial system is highly concentrated on a few Australian-owned players, with
similar business models and vulnerabilities. As a result, there is a strong correlation in the
financial soundness of the subsidiaries among themselves and with their parents.

The banking sector depends to some extent on wholesale funding, including foreigncurrency funding sourced from offshore markets, and is exposed to liquidity risk from
maturity mismatch. The main liquidity risk has traditionally been a reliance on offshore
wholesale funding relative to domestic deposits. Rollover liquidity risk has been mitigated by the
introduction of the core funding ratio (CFR) in 2010. However, because over 50 percent of banks’
assets are long term housing financing, the maturity mismatch is still a concern. Banks have also
reduced their reliance on non-NZD funding to below 20 percent of total liabilities.4 While this
development mitigates concerns over vulnerability to FX risk and increases the availability of
foreign currency swap counterparties, pushing down hedging costs, banks might be vulnerable
to risks related to hedging techniques under a stress event. As New Zealand’s banks looking for
offshore funding use mostly the primary market, funding liquidity on global markets is relatively
2
The weighted average time before a mortgage has to be repriced is around 12 months because most borrowers are
still under floating or on short-term fixed rates.
3
Additional risk comes from the high concentration of debt within the dairy sector: at the end of the 2013–2014
season, 10 percent of farms accounted for around one-third of the total sectoral debt. To address credit risk concerns
on farm lending, in June 2011 the RBNZ put in place a new capital requirement for farm lending.
4
This represents a reduction of around 10 percentage points from the pre-crisis peak.
INTERNATIONAL MONETARY FUND
17
NEW ZEALAND
more important than market liquidity. Yet, heightened volatility in global financial markets may
contribute to a pick-up in wholesale funding spreads.
Figure 6. New Zealand: Financial Sector Vulnerabilities
The main financial sector vulnerabilities are associated with developments in the housing sector, the decrease in dairy
prices, and reliance on offshore funding.
Mortgage lending has experienced strong growth over last
…with housing prices increasing especially in the Auckland
two years…
area, where 1/3 of the population lives.
House prices growth
Mortgage lending in New Zealand
(Annual percentage change, 3 month average)
30
250
15
200
12
150
9
100
6
50
3
0
0
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 June
2016
Total mortgage loans (billion NZ$)
Annual growth (in percent, RHS)
Dairy farms’ earnings have fallen below break-even levels
in 2015–2016 season.
20
10
0
-10
New Zealand
-20
2006
8
2012
Auckland
2014
August
2016
New Zealand’s gross external debt
125
10
2010
The banking sector’s debt dominates New Zealand’s
external debt.
Dairy payout of New Zealand farms
(NZD/kgMS)
2008
(In percent of GDP)
100
6
75
4
2
50
0
2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 June
2016
working expense
other net expense
headline payout
break-even payout
interest and rent
25
0
2006
Central bank and government
Banks
2015
Other sectors
Sources: RBNZ and IMF staff estimates.
FINANCIAL STABILITY AND RESILIENCE
7.
The analysis of resilience is linked to the four major macrofinancial risks that might
challenge the solvency or liquidity position of the banking system (Table 5). These are: (i) a
strong correction in the real estate market; (ii) depressed dairy prices; (iii) deterioration in global
economic conditions; and (iv) tight conditions in global financial markets. The stress tests results
indicate that New Zealand banks are generally resilient to these risks.
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Table 5. New Zealand: Risk Assessment Matrix (RAM)
Source of risk
Persistently lower dairy
prices, triggered by supply
and demand factors,
reversing only gradually.
Overall Level of Concern
Likelihood of severe realization in 1–3 years
Expected impact on financial stability
High
Medium
 While recent reduction in global supply has
helped reduce the imbalance between
demand and supply, markets have
remained volatile and supply might readjust
more gradually than expected, keeping
dairy prices low in a tail risk event.
 The estimated payout would be well below the


Medium
A significant China
downturn leading to a
global growth slowdown
and further declines in
commodity prices.
 The China downturn would weaken New
 A global recession would adversely affect bank


Zealand export demand directly (as China is
New Zealand’s second largest trading
partner), and indirectly (as Australia is New
Zealand’s largest trading partner and
Australia’s largest export market is China).
The global growth slowdown would impact
New Zealand through broad-based falls in
export demand, low commodity prices, and
confidence effects.

Medium
Dislocations in offshore
wholesale funding
markets.
 The trigger could be related to various

A large correction in
property markets,
including both residential
and CRE segments. This
may be triggered by
deteriorating global
conditions, including from
a significant downturn in
China.
break-even payout of $5.25 per KgMS, resulting
in a third consecutive season of negative cash
flow for many farms.
Low milk prices would put the dairy sector
under material stress, with debt relative to
trend income increasing over 350 percent.
This could result in a sharp increase in
nonperforming loans.
Medium
sources, including disorderly and/or
accelerated monetary policy normalization
in the U.S., low market liquidity, or funding
pressures for the Australian-owned New
Zealand banks prompted by regulatory
changes.
The cost of long-term wholesale funding
would increase if heightened market
volatility returns.
earnings. Borrowers’ creditworthiness would be
affected (including through falling property
prices), leading to greater than expected
defaults, write-offs, and loan impairment
charges.
The adverse effect on net income from a sharp
slowdown could be amplified by large currency
fluctuations and disruptions in capital flows.
Australian-owned New Zealand banks would be
particularly exposed to a sharp slowdown in
China, with potential spillover effects from
Australian parents.
High
 Higher funding costs could erode banks’ net


Medium
interest margins weighing down on profits,
which could be also affected by lower securities
valuations.
Banks’ ability to borrow cross-border would be
hampered by market disruptions, exacerbating
funding and liquidity risk.
New Zealand banks' reliance on wholesale
funding remains large, especially when just over
half of this funding is sourced offshore.
Medium
 Auckland house prices remain elevated
 The banking system would be affected by a



relative to fundamentals and market
pressures are increasing.
Price pressures are spreading to the rest of
the country further stretching household
balance sheets.
CRE prices continue to increase with prices
relative to rents returning to pre-crisis
peaks, while supply factors point at the risk
of oversupply in the medium-term.

generalized and substantial fall in property
prices in New Zealand.
A fall in real estate prices would lead to higher
credit impairment losses in portfolios secured
by real estate assets.
If the correction triggers an economic
recession, rising unemployment and lower
corporate profits could lead to higher
impairments across other asset classes. Credit
risk would be exacerbated by high household
debt-to-income ratios.
INTERNATIONAL MONETARY FUND
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NEW ZEALAND
8.
The resilience of the New Zealand banking system was assessed under a 5-year
solvency test (with interlinkages between funding costs and stressed capital ratios), a set of
liquidity stress tests, a broad range of sensitivity tests, and a contagion module (Appendixes II
and III). The sensitivity analysis was informed by supervisory reverse stress tests conducted by the
four major banks which yielded insights into business vulnerabilities and potential system-wide
effects from correlated losses in the banking system. To enhance the consideration of systemic risk
in the stress testing exercise, the contagion module included: (i) a network analysis drawing on
bilateral exposure data to assess how credit and funding risk propagate given the network of
exposures, and (ii) a contagion analysis based on market-based data to evaluate contagion through
financial markets from transactional exposures, common holding of securities and investors’
correlated strategies.
Solvency Stress Tests
9.
The IMF team and the RBNZ ran parallel solvency stress tests, covering credit risk,
market risk, funding risk, and interest rate risk in the banking book under two
macroeconomic scenarios (Figure 7).5 The baseline scenario reflected the 2016 October IMF WEO
macroeconomic projections. The adverse scenario captured the key risks identified in the RAM using
a stressed macroeconomic scenario and idiosyncratic funding shocks. The scenario simulates a
balance sheet recession triggered by deteriorating global conditions, tighter and more volatile
financing conditions, a credit cycle downturn in China, and persistently lower commodity prices.6
The global downturn directly impacts Australia and New Zealand, creating additional spillovers in
New Zealand through financial linkages with Australia and a sharp correction in the New Zealand
property and equity market and triggering a private domestic demand-driven contraction. The
funding shock includes bank-specific stressed spreads over the projected benchmark rate for
wholesale debt issuance. In addition, it incorporates a ‘systemic’ funding shock component linking
bank-specific funding costs to the stressed capital position of the rest of the banking system.
10.
The stress test included the interaction between solvency risk and funding costs as
well as contagion from weaker banks in funding markets. The projection of bank funding costs
followed an iterative process. In the first stage, the initial projection of bank-specific funding costs
was informed taking into account aggregate projections for the reference rate in debt markets,
bank-specific stressed spreads for wholesale issuance benchmarked against the behavior of their
actively traded bonds during the Global Financial Crisis (GFC), and the bank structure of liabilities as
of June 2016. Stressed funding costs were used to project bank-specific stressed Tier 1 ratios. In the
second stage, the forecast of funding costs was revised driven by macroeconomic variables, bank-
5
IMF staff and the RBNZ agreed on a common baseline and downturn scenarios to analyze the resilience of the
banking system. Staff of both institutions used their own analytical models to generate projections. Appendix III
(Stress Testing Matrix) has a detailed comparison between the two approaches to stress testing.
6
To assess the vulnerability of dairy farmers to adverse shocks, the scenario features a combination of a sustained
20 percent fall in dairy prices relative to June 2016 and a protracted recovery, representing a 60 percent fall from the
peak observed in June 2014, with a 20 percent peak-to-trough drop in land prices.
20
INTERNATIONAL MONETARY FUND
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Figure 7. New Zealand: FSAP Stress Test Scenarios
The adverse scenario in the stress test captures key macrofinancial risks.
Real GDP growth declines sharply and is followed by a
V-shaped recovery. The peak deviation from baseline
reaches -7.5 percent by 2018.
Inflation falls into negative territory, and remains below
zero until the end of the stress period.
Real GDP Growth
(in percent, year-on-year)
Inflation Rate
(in percent, year-on-year)
6
6
5
4
4
2
3
0
2
1
-2
0
FSAP Baseline
FSAP Adverse
2015 Dairy Porfolio Test
-4
-1
-6
-2
2005
2007
2009
2011
2013
2015
2017
2019
2021
Conditions tighten initially, but relax as credit risk premia
soften and monetary policy remains accommodative.
2005
2007
2009
2011
2013
2015
2017
2019
2021
The yield curve steepens, pushing down asset valuations.
90d Bank Bill Rate
(in percent)
10y Yield Rate
(in percent)
10
8
9
7
8
6
7
5
6
5
4
4
3
3
2
2
1
1
0
0
2005
2007
2009
2011
2013
2015
2017
2019
2021
House prices fall by 35 percent by 2018, but recover to the
pre-crisis levels by the end of the stress period.
2005
2007
2009
2011
2013
2015
2017
2019
2021
Dairy payout remains below the break-even of around
NZD 5/KgMS. Projections are more severe than under the
2015 RBNZ dairy stress test scenario.
Dairy Payout Price 1/
(in NZD per kg of milk solids)
Housing Prices
(in percent, year-on-year)
30
9
8
20
7
10
6
5
0
4
-10
3
2
-20
1
-30
0
2005
2007
2009
2011
2013
2015
2017
2019
2021
2005
2007
2009
2011
2013
2015
2017
2019
2021
Sources: RBNZ, IMF, and IMF staff estimates.
1
The number quoted as Dairy Payout Price includes the price paid for milk and total distributable profit.
INTERNATIONAL MONETARY FUND
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NEW ZEALAND
specific variables (including stressed Tier 1 ratios from stage 1), global variables, and a contagion
risk factor from the rest of New Zealand banks which is unexplained by systematic risk factors. This
component captured the ‘systemic funding risk’ shock from idiosyncratic shocks in peer banks to
each individual bank, and led to a revised path of capital ratios.
11.
The results suggest that major New Zealand banks are resilient to a severe global
economic downturn, although most would need to use the capital conservation buffer (CCB)
under stress (Figure 8). The IMF stress test results are broadly comparable to those produced by
RBNZ using the commonly agreed scenario and RBNZ’s in-house credit risk models in combination
with expert judgment (Appendix IV). Under the baseline scenario, the capital of all banks is above
minimum requirements and the CCB with the aggregate CET1 at around 10.5 percent by 2021. In
addition, while the RBNZ has not implemented the Basel III regulatory leverage ratio, this was
projected for stress testing purposes, and the aggregate Tier 1 leverage ratio settles around
7.2 percent. Under the adverse scenario, all banks meet minimum requirements with the aggregate
CET1 ratio at 7.7 percent at the low point of the stress, but four banks would breach their total
capital CCB in 2018. The shortfall in aggregate capital ratios under the stress test is mainly driven by
stressed risk-weighted assets (RWAs), credit losses, and funding costs. Banks are able to retain
capital through profitability despite the erosion in margins, supporting capital ratios during the
downturn.
12.
In addition to scenario-based solvency tests, sensitivity tests further explored bank
vulnerabilities to wider shifts to risk factors (Figure 9). Drawing on insights from reverse stress
tests, the direct impact on capital ratios from pressures on effective margins is significant, while the
impact from a sharp hike in risk-free rates, pushing down asset valuations, is more limited. The effect
of a sharper decline in housing prices on mortgage Loss-Given Default (LGD) rates is mitigated by
improved LTV ratios. A severe collapse of real estate prices by 50 percent would push up bank LGD
ratios on mortgage loans to about 30 percent. Most of the impact comes from recent vintages,
despite improved LVRs at around 65 percent, due to the larger impact of the housing price
correction. A separate sensitivity test on credit concentration suggests that this risk is moderate: by
simulating the default of the largest counterparties of each of the 5 largest banks, including other
banks, other financial institutions, and corporates,7 banks would be able to meet their regulatory
capital ratios following the default of their three largest counterparties.
13.
Stress tests are a useful supervisory tool but should be interpreted with caution. Stress
test scenarios replicate historical events or express extreme “tail events” based on historical loss
distributions, even though the nature of crisis is to have unanticipated shocks where the past offers
limited guidance. The RBNZ could usefully expand data collection and modelling efforts to develop
structural models for credit risk in CRE and corporate portfolios.
7
Only bank exposures to supranationals were excluded from the analysis.
22
INTERNATIONAL MONETARY FUND
NEW ZEALAND
Liquidity Stress Tests
14.
A set of liquidity tests was performed jointly by the RBNZ and the IMF team based on
commonly agreed assumptions. They helped assess banks’ short-term resilience to an abrupt and
sudden withdrawal of funding as well as banks’ structural exposure to liquidity risk. While all locally
incorporated banks are required to comply with RBNZ liquidity policy, Basel III liquidity requirements
have not been implemented in New Zealand. The RBNZ adopted quantitative liquidity requirements
in April 2010. The one-month mismatch ratio is broadly aligned with Basel III liquidity coverage ratio
(LCR) whereas the CFR has a similar structure to the Basel III net-stable funding ratio (NSFR).
Figure 8. New Zealand: Results of the FSAP Solvency Stress Test – Adverse Scenario
Under the severe scenario, all banks would still meet minimum requirements but most banks would draw down their
capital conservation buffer.
Aggregate bank capital ratios decline in the first two years
of the severe scenario and recover afterwards. The
recovery is less pronounced for CAR due to the full phaseout of non-qualifying Basel III capital instruments.
Capital Adequacy Ratio
(in percent)
16%
CAR
14%
Tier 1
Increased risk weighted assets contribute the most to the
fall in capital ratios.
Contribution to Change of CAR
(in percent)
4%
CET1
Net Profit (before losses due to stress)
Loss provisions (Credit Risk)
2%
Interest rate risk
Credit spread risk
12%
0%
Repricing risk in the trading and AFS books
10%
Foreign exchange rate risk
-2%
8%
Commodity Risk
Losses from derivatives
6%
-4%
Other Market risk
4%
Other comprehensive income
-6%
2%
Dividends
Change in Risk weighted assets
0%
-8%
Jun-16
Dec-17
Dec-18
Dec-19
Dec-20
Dec-17
Dec-21
No bank breaches the CET1 minimum ratio or the capital
conservation buffer over the stress test horizon…
CET1
(in percent)
Dec-21
Other equity corrections
Basel III capital adjustments
…but most banks breach their capital conservation buffer
for total regulatory capital at the low point of the stress.
12
15
11
14
10
13
9
12
8
11
7
10
6
9
5
8
4
Dec-19
CAR
(in percent)
7
Jun-16
Dec-17
Dec-18
Dec-19
Dec-20
Dec-21
Jun-16
Dec-17
Dec-18
Dec-19
Dec-20
Dec-21
Source: IMF staff estimates. The sample of banks included the five major New Zealand locally incorporated banks. Boxplots
include the mean (yellow dot), the 25th and 75th percentiles (grey box, with the change of shade indicating the median), and the
10th and 90th percentiles (whiskers). The dashed line indicates the minimum capital regulatory ratio. The solid line includes the
capital conservation buffer.
INTERNATIONAL MONETARY FUND
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NEW ZEALAND
Figure 9. New Zealand: Sensitivity Tests
Bank capital ratios are relatively more sensitive to pressures on net interest margins and concentration risk.
The simultaneous failure of the three largest
counterparties would push capital ratios toward their
regulatory minimum.
A prolonged compression of net interest margins by 150
bps would erode capital buffers by around 400 bps.
NIM Compression
(in percent of capital)
Credit Concentration Test
(in percent of capital)
14
14
12
12
10
10
8
8
6
6
4
4
2
2
0
0
June-16
Largest 1
CET1
Largest 2
Largest 3
Tier 1
Largest 4
CET1 min
June-16
Largest 5
CET1
Tier 1 min
Capital ratios are resilient to sharp increases in policy
rates.
25
50
Tier 1
75
100
CET1 min
125
150
Tier 1 min
A 50 percent fall in residential real estate prices combined
with a forced sale discount of 25 percent, would widen
LGD ratios to under 30 percent despite improved LTV
ratios.
Repricing Risk
(in percent of capital)
14
80
12
70
10
60
Impact on LGD
(in percent)
LGD by vintage
LTV ave
Price Impact (rhs)
-10
-20
50
8
40
6
-30
30
4
0
-40
20
2
-50
10
0
0
June-16
CET1
50
100
Tier 1
150
200
CET1 min
250
300
Tier 1 min
-60
Q3
Q4
Q1
Q2
Q3
Q4
Q1
Q2
Q3
Q4
2014 2014 2015 2015 2015 2015 2016 2016 2016 2016
Source: IMF staff estimates.
15.
The top-down liquidity stress tests were undertaken using Basel III liquidity standards
and the current RBNZ regulatory framework. The team and the RBNZ conducted a range of Basel
III quasi-LCR tests over 2 different horizons and 3 separate scenarios.8 These scenarios included the
8
To populate the data in the LCR liquidity stress testing tool, the RBNZ’s liquidity survey was used to compute the
30-day and 1-week maturity mismatch ratio. RBNZ conducted a mapping of LCR categories for level 1 and level 2 of
High Quality Liquid Assets (HQLA), various categories or types of liabilities and off-balance sheet for cash-outflows
and several categories of contractual receivables for cash-inflows. The mapping was conducted on a best effort basis,
but in some categories the matching might not be perfect.
24
INTERNATIONAL MONETARY FUND
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standard 2013 LCR prescribed haircuts, rollover and run-off rates, and 2 additional scenarios tailored
to New Zealand banks, which are more severe than those prescribed by the Basel III regulatory
framework: 30-day quasi-LCR test, and 5-day quasi-LCR test run on three stress scenarios (namely
“LCR scenario,” “New Zealand retail” scenario, and “New Zealand wholesale” scenario).9 The liquidity
stress tests under the RBNZ’s liquidity regulatory framework included: (i) one-month mismatch ratio
to assess banks’ resilience to a withdrawal of funding; and (ii) the CFR to evaluate banks’ reliance on
short-term wholesale funding.
16.
Despite significant reliance on wholesale funding, New Zealand banks’ funding
structure appears resilient, partly due to strengthened regulatory and supervisory standards
since the last FSAP. Originally set at 65 percent in 2010, banks are now required to have at least
75 percent of their loan portfolio financed using core funding. The weighted average CFR for the
banking system was 85 percent in August 2016. Banks would have sufficient liquid buffers to
withstand a 1-week and 30-day liquidity stress scenario. Under Basel III assumptions, the 30-day
weighted average LCR ratio was 113 percent in August 2016. Under the “New Zealand retail”
scenario, the aggregate LCR ratio fell to 73 percent with 6 banks falling under the threshold. While
the aggregate LCR ratio improves under the “New Zealand wholesale” scenario to 78 percent, the
aggregate liquidity is larger at 2.8 percent of the total assets as this scenario hits the major banks
harder (Figure 10). These tests should be interpreted with caution as they do not stress the
effectiveness of cross-currency swaps used to hedge wholesale funding issued in foreign currency.
Contagion Analysis
17.
A contagion module assessed the potential for distress in a financial firm to create
risks to overall financial stability. The transmission of distress from an individual firm to the
broader banking sector is spread through bilateral exposures and market contagion. Network
analysis is used to examine bilateral exposures, where counterparties with significant exposures to
the failing firm may suffer material losses resulting in their inability to satisfy their obligations
spreading distress to other parts of the financial system in the form of cascading defaults down the
credit chain.10 Under market contagion, market participants’ revise their expectations on the
solvency of other firms exposed to the firm in distress, conditional on the broader economic and
financial environment.
9
The “New Zealand retail” scenario features run-off rates for stable (unstable) deposits of 10 percent (15 percent)
rather than 5 percent (10 percent) under Basel LCR. The run-off rate for undrawn but committed credit and liquidity
facilities for retail and SMEs (corporates) rises from 5 percent (20 percent) to 10 percent (40 percent), among other
shifts to draw-down rates. Under the “New Zealand wholesale” scenario, the run-off rate for uninsured corporate
deposits increases from 40 percent to 100 percent, operational deposits generated by clearing and custody are
drawdown at a 75 percent rate rather than 25 percent, and secured funding backed by Level 2B assets runs at a rate
of 100 percent over the Basel 50 percent mark, among other changes to Basel rollover rates.
10
The network analysis is based on Espinosa, M. and Sole, J. (2010), “Cross-Border Financial Surveillance: A Network
Perspective”, IMF Working Paper 10/15.
INTERNATIONAL MONETARY FUND
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NEW ZEALAND
18.
The network analysis captures the potential for cascading defaults throughout the
New Zealand interbank market. It includes a credit shock simulation whereby one credit
counterparty defaults at a time. It also includes a funding shock simulation whereby the default of a
funding counterparty might induce a liquidity shortfall. The potential fire-sale of assets in a stressed
market was linked to the LCR prescribed haircuts for liquid assets. The analysis was based on RBNZ’s
large exposure data template.11 The coverage of the network analysis included all 15 locally
incorporated banks.
Figure 10. New Zealand: Liquidity Stress Test Results
New Zealand banks are resilient to sizable withdrawals of funding – both using NZ-specific metrics, as well as when
applying a quasi-LCR stress test.
The majority of banks would comply with the transitional
80 percent 30d LCR threshold under Basel III, but the sizeweighted average quasi-LCR falls below this mark under
the retail and the wholesale scenarios.
30d Quasi-LCR Test
(in percent)
600
Results improve under the 5d quasi-LCR test, with no bank
falling below the 80 percent threshold, and just a small
liquidity shortfall of 1.3 percent of assets under the
wholesale scenario.
5d Quasi-LCR Test
(in percent)
700
600
500
500
400
400
300
300
200
200
100
100
0
0
2013 LCR
assumptions
New Zealand retail
scenario
All banks comply with the RBNZ’s liquidity requirements,
i.e. the 1-week and 1-month mismatch ratios…
50
2013 LCR
assumptions
New Zealand
wholesale scenario
RBNZ Mismatch Ratio
(in percent)
40
New Zealand retail
scenario
New Zealand
wholesale scenario
…as well as the core funding ratio.
150
RBNZ Core Ratio
(in percent)
130
30
110
20
90
10
70
0
-10
Mismatch ratio 1-week
Mismatch ratio 1-month
50
Core funding ratio
Sources: RBNZ and IMF staff estimates.
Note: The sample of banks included in the liquidity stress test includes all fifteen New Zealand locally incorporated banks.
Boxplots include the mean (yellow dot), the 25th and 75th percentiles (grey box, with the change of shade indicating the median),
and the 10th and 80th percentiles (whiskers) for the quasi-LCR ratios, and the 10th and 90th percentiles for RBNZ liquidity
regulatory ratios. The red line indicates the lowest acceptable ratio value (hurdle rate).
11
The database covers the 10 largest bank and nonbank financial institution exposures, as well as the 10 largest
other exposures and any exposure larger than 10 percent of CET1 capital. The network analysis thus captures any
significant cross-sector exposures.
26
INTERNATIONAL MONETARY FUND
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19.
The risk of contagion from a bank default through interbank exposures appears to be
limited, but results need to be interpreted with caution. Interbank exposures are relatively small
compared to banks’ capital levels. Under the baseline calibration there are no banks whose default
would lead to consecutive defaults of other institutions. A loss of the 3 largest cross-bank exposures
leads to a cascade default of one locally-incorporated bank, while a loss of three largest corporate
and exposures to other nonbank financial institutions results in cascade defaults of four banks.
However, if LGD on defaulted exposures increases to 90 percent, the simulated default of one bank
leads to a cascade default of 1 more bank and 5 institutions default following the loss of their
3 largest exposures. While the results are sensitive to changes in the LGD assumptions, they are
robust to changes of the discount on asset sales and of the share of non-replaceable funding. These
results need to be interpreted with caution, as fire-sale assets are calibrated exogenously using LCR
prescribed haircuts, so spiral effects from deeper discounts in prices of non-liquid assets are not
modeled explicitly. Moreover, contagion effects from a bear-market sentiment to banks following
similar business models to the bank in distress are excluded.
20.
The analysis of market contagion is complementary to the network analysis. Contagion
effects are measured using market-implied asset returns capturing spillovers unrelated to credit
exposures (i.e., due to common exposures or driven by banks with similar business models). In
addition, systemic contagion can be transmitted by internationally active banks. The analysis is
performed for Australian banks due to the lack of market data for New Zealand subsidiaries. For the
large Australian banks, instability can spread from their global counterparts, given their active
presence in offshore debt markets and derivative markets. While the analysis is conducted at the
consolidated level, distress is expected to trickle down at the subsidiary level due to the tight
correlation between Australian banks’ equity returns and New Zealand banks’ funding spreads.
Lower equity returns at the consolidated level are associated with widening funding spreads for
New Zealand banks in wholesale markets (Figure 11).
21.
The Conditional Value at Risk (CoVaR) framework is used to assess whether individual
distress could pose a material risk to financial stability.12 Although there is not a unique
definition of financial distress, a firm is assumed to be in distress when it reaches its Value at Risk
(VaR). The quantification of contagion effects depends on the definition of the financial system and
the financial conditions under which a firm’s failure arises. Two financial systems were defined: (i) a
global banking system covering the 30 G-SIBs as of November 2015,13 and (ii) an Australian banking
system including the four largest Australian banks. The set of conditioning state variables is guided
by their role in affecting global returns in financial markets.
22.
Inward cross-border spillovers from distressed G-SIBs to New Zealand banks are
significant. The analysis suggests that Australian banks have become increasingly exposed to
European banks. The transmission of distress is more severe to tail equity returns than to
12
Lopez-Espinosa, Moreno, Rubia, and Valderrama, (2012) “Short-term wholesale funding and systemic risk: A global
CoVaR approach”, Journal of Banking and Finance 36, 3150–3162.
13
Calculations are performed over 28 G-SIBs due to data limitations. Group BCPE is not listed and Agricultural Bank
of China market-based data starts only in July 2010.
INTERNATIONAL MONETARY FUND
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NEW ZEALAND
market-implied asset returns during stressed times due to fire sales effects and contagion in funding
costs. The reverse is true during calm periods suggesting flight-to-quality rebalancing of investors’
portfolios.
Figure 11. New Zealand: Cross-Border Spillovers
Inward cross-border spillovers from distressed G-SIBs to New Zealand are significant.
There is high negative correlation between Australian banks’ equity returns and their New Zealand subsidiaries’ wholesale
funding spreads.
Australian Banks' Returns and New Zealand Banks' Spreads1
(in percent)
3.0
60
40
2.5
20
2.0
0
1.5
-20
1.0
-40
NZ bank wholesale spreads
2016 Jun
2015 Oct
2015 Feb
2014 Jun
2013 Oct
2013 Feb
2012 Jun
2011 Oct
2011 Feb
2009 Oct
2009 Feb
2010 Jun
-80
2008 Jun
-60
0.0
2007 Oct
0.5
Australian bank returns (RHS)
European banks have become relatively more systemic to Australian banks.
Contribution to Systemic Risk in Australia
(in percent of asset returns)
0
-1
-2
-3
-4
-5
Nov-07
Feb-08
May-08
Aug-08
Nov-08
Feb-09
May-09
Aug-09
Nov-09
Feb-10
May-10
Aug-10
Nov-10
Feb-11
May-11
Aug-11
Nov-11
Feb-12
May-12
Aug-12
Nov-12
Feb-13
May-13
Aug-13
Nov-13
Feb-14
May-14
Aug-14
Nov-14
Feb-15
May-15
Aug-15
Nov-15
Feb-16
May-16
Aug-16
-6
France
Germany
United Kingdom
United States
This result is confirmed when systemic risk is measured by
the contribution to distressed equity returns.
Contribution to Systemic Risk in Australia
(in percent of equity returns)
10
0
-10
-20
-30
-40
-50
Jul-16
Apr-16
Jan-16
Oct-15
Jul-15
Jan-15
Apr-15
Jul-14
Oct-14
Jan-14
United Kingdom
Apr-14
Jul-13
Oct-13
Jan-13
Apr-13
Oct-12
Jul-12
Apr-12
Jan-12
Jul-11
Germany
Oct-11
Jan-11
France
Apr-11
Jul-10
Oct-10
Jan-10
Apr-10
Oct-09
Jul-09
Apr-09
Jan-09
Oct-08
-60
United States
Sources: Bloomberg, RBNZ data, IMF staff estimates.
1
The blue line shows monthly-averaged weekly equity returns of the four big Australian banks weighted by their asset size. The red line
shows the monthly average wholesale funding spreads in domestic and offshore markets for New Zealand banks.
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FINANCIAL SECTOR OVERSIGHT
Macroprudential Framework
23.
New Zealand has a good institutional framework for macroprudential policy, but
decision-making procedures could be strengthened. There is a clear mandate for financial
stability, operationally clarified by a Memorandum of Understanding (MoU) signed between the
RBNZ and the MoF. The MoU, however, created a narrow framework, limiting actions to banks and
including just four instruments in the toolkit. This has constrained RBNZ’s macroprudential actions,
should risks arise which require a different set of tools. To amend the toolkit, the RBNZ needs to
obtain the agreement of the MoF, but procedures for that are not transparent to the public. To
make the process more transparent, the RBNZ’s advice and the opinions of the MoF on the need for
adjustment should be publicly disclosed within an appropriate timeframe.14 Furthermore, a more
regular review of the macroprudential toolkit prescribed in the MoU than the current five years
(e.g., biannually) may be useful. In addition, timely prudential action requires a decision-making
processes free from financial industry and political pressures. The accountability framework should
allow effective accountability without jeopardizing the integrity and independence of the
macroprudential decision-making process, reviewing actions already taken but also safeguarding
against influence on actions in advance.
24.
New Zealand has actively used macroprudential tools to address systemic risks in the
housing sector, but more may be needed (Figure 12). In mid-2013, rules were introduced
requiring banks to reduce the volume of high-LVR lending to below 10 percent of new
commitments. Real estate prices and credit expansion continued to grow strongly, particularly in the
Auckland area, leading the RBNZ to tighten further the LVR restriction to Auckland investors at end2015. Despite the financial stability benefits generated by the reduction of the LVRs, growth in
house prices and credit has remained elevated, reducing the resilience effects of the framework and
causing the RBNZ to extend investor restrictions nationwide starting in October 2016. The new
restrictions eliminate the regional differences and impose tighter limits on investor loans and owneroccupier lending. Nevertheless, imbalances in the sector still generate systemic risk: long-term
declining rental yields and a still rising price-to-income ratio suggest overvaluation, and household
debt-to-income has edged up further. The persistence of imbalances suggests that the potential
benefits from LVR measures have reached their limits and other tools are needed.
14
The Treasury might need to develop additional analytical capacity on financial stability issues in order to better
assist the Minister in this task.
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NEW ZEALAND
Figure 12. New Zealand: Housing Sector Risks
LVR restrictions imposed by the RBNZ have reduced the
share of high LVR mortgages…
Share of High LVR Mortgages
(in percent)
…but imbalances remain, such as the record high
household indebtedness.
Debt to income ratio
(in percent)
180
25
160
20
140
120
15
100
80
10
60
5
40
20
Mar-16
Mar-14
Mar-12
Mar-10
Mar-08
Mar-06
Mar-04
Mar-02
Mar-00
Mar-98
Mar-96
Mar-94
Mar-92
Sep-15
Mar-16
Sep-14
Mar-15
Sep-13
Mar-14
Sep-12
80<LVR≤90
0
Mar-90
LVR>90
Mar-13
Sep-11
Mar-12
Sep-10
Mar-11
Sep-09
Mar-10
Sep-08
Mar-09
0
Sources: NZ authorities and IMF staff estimates.
25.
Since housing loans represent more than half of banks’ assets, limits on debt-toincome could usefully become part of the macroprudential toolkit. It is still not possible to
assess the full effects of the October 2016 LVR adjustments in the housing market. If the measures
do not substantially reduce current risks, as the recent experience with LVR measures seems to
suggest, authorities should complement the current measures with Debt-to-Income (DTI) limits. The
RBNZ is discussing with the MoF the introduction of DTI limits in the macroprudential toolkit. Caps
on DTI (or measures of similar nature such as debt servicing to total income (DSI)) can usefully
complement the LVR restrictions and would help addressing remaining risks and targeting more
directly risks derived from high household indebtedness. Considering that risks can build up
relatively quickly, the expansion of the macroprudential toolkit is an important precautionary
measure for the RBNZ to be ready to respond should the need arise. The reliance on multiple tools
may also reduce distortions when compared to the use of one conservatively calibrated tool. Firsttime home buyers, for instance, tend to be more affected by LVR restrictions because they do not
have the equity gain arising from the increase in house prices, though they tend to be in a relatively
better position in terms of servicing debt in relation to investors. In addition, authorities are
encouraged to maintain efforts to reduce distortionary tax benefits and facilitate housing supply.
26.
The concentration of the financial sector generates structural vulnerabilities that need
to be addressed and capital buffers should reflect this systemic risk. Direct exposures among
the four largest banks are relatively limited, but the potential for spillovers is elevated. One of the
important channels for spillovers is the reliance on overseas funding, which could lead to a
tightening in the system in case of problems in one bank. Furthermore, due to their size, the
deleveraging or fire sales of assets by one bank could contaminate the whole system due to the
depression of asset values and economic activity. The RBNZ have been making efforts to increase
the effectiveness of bank resolution regimes to better manage these risks should they crystalize.15
15
The outsourcing policy requires large banks to have the legal and practical ability to control and execute core
outsourced functions.
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Nevertheless, the largest banks are systemically important and should be required to hold capital
commensurate with the magnitude of the externalities of any future distress. It is recommended that
the current review of capital requirements being undertaken by the RBNZ should increase capital
buffers to reflect the prevalence of SIFIs in the financial system.
Banking and Insurance
27.
The RBNZ has a non-intrusive approach to supervision and does not conduct on-site
inspections to verify and determine compliance with regulations and guidelines or the
effectiveness of management, systems, and data.16 The RBNZ’s supervisory approach relies on
three pillars: market discipline, based on public disclosure; self-discipline, based on sound corporate
governance and (for banks) directors’ attestations of public information; and regulatory discipline,
based on a simple and conservative regulatory framework, off-site monitoring, and disciplinary
actions. Enhanced formal and informal cooperation with APRA reflects the unique interdependence
of the two financial systems (APRA conducts a more intrusive supervisory approach, from a home
perspective, towards the New Zealand operations of Australian banks and insurers).17
28.
Since the last FSAP, the RBNZ has increased attention to strengthening regulatory
discipline, but the approach still has shortcomings. For banks, the RBNZ has adopted Basel II and
III capital standards, introduced its prudential liquidity policy ahead of Basel III, issued additional
supervisory guidance and increased regulatory reporting. The RBNZ took on prudential supervision
of the insurance sector under legislation enacted in 2010, broadly applying the three-pillar approach
developed for banking and developing a set of prudential requirements. In 2016, the RBNZ began
the final stage of a multi-year upgrade of its supervisory reporting from banks, but improving
supervisory data collection from insurers is a particular need. Conduct supervision has been
enhanced through broadening the scope of FMA responsibilities to include insurance products, but
there are significant gaps in the framework for insurance conduct regulation.
29.
The overall framework for prudential regulation is well-developed, though there is
scope to extend the powers of the RBNZ and develop enforcement practices. While the RBNZ
has extensive powers in relation to licensing, supervision and enforcement, its effectiveness would
be strengthened with broader powers to impose binding standards in all areas of prudential
regulation (powers are limited to solvency and fit-and-proper requirements). The framework for
licensing of overseas insurers (branches) could be strengthened to ensure the RBNZ assesses the
equivalence of foreign regulatory regimes. Supervisory engagement, particularly with large
institutions, needs to move towards communicating supervisory expectations and requiring action.
16
For a historical overview of the Reserve Bank’s approach to prudential supervision, including the evolution of the
three pillars, see: Chris Hunt (2016) “A short history of prudential regulation and supervision at the Reserve Bank”,
Reserve Bank of New Zealand Bulletin, 79(14), August.
17
The Trans-Tasman Council on Banking Supervision, established in 2005, provides the general framework for
cooperation and collaboration among the relevant authorities. Several reciprocal legal provisions also reflect the
need for enhanced cooperation. Ad-hoc MoUs complement formal arrangements.
INTERNATIONAL MONETARY FUND
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30.
While RBNZ staff are highly competent, insufficient resources are an impediment to
enhancing the effectiveness of the three pillar approach, even if the low-intensity approach is
retained. The competence and professionalism of staff is recognized by market participants, but the
RBNZ operates under specific resource constraints and numbers are insufficient. Strengthening the
regulatory discipline pillar will require increased resources, including technical capacity to develop
prudential requirements and guidelines, deepen the analysis that supports the supervisory ratings,
and to develop a supervision policy that reflects a balance between risk and efficiency costs of
supervision. The FMA, in turn, needs to build more insurance expertise to promote adequate
conduct supervision of the sector.
31.
The non-intrusive approach to supervision of the RBNZ stands in contrast with the
Basel Core Principles for Effective Banking Supervision (BCP) and Insurance Core Principles
(ICP) and can impair the effectiveness of market and self-discipline (Annexes V and VI). The
effectiveness of the RBNZ approach—and its convergence with the BCP and ICP—is hindered by: (i)
the absence of supervisory testing to determine compliance and the effectiveness of risk
management, and (ii) limited supervisory guidelines and regulations that could serve as benchmarks
for the three pillars. While policy implementation will take significant time, there is a need to close
the most significant gaps by:

Issuing enforceable supervisory standards on key risks. Such standards, tailored to reflect the
complexity and risk profile of the institutions and the system, would provide transparency to
market participants regarding the supervisor’s expectations in the areas being attested to by
directors. Standards also help support supervisory judgment to implement preventive
enforcement. Regulation of governance, risk management and controls and undertaking risk
assessment in these areas need to be strengthened to promote the effectiveness of governance
in practice.

Reviewing the enforcement regime to promote preventive action. Compliance with the
guidelines issued by the RBNZ should serve as evidence of prudent banking and insurance. Also,
in the case of banking, the legal need for the consent of the MoF to issue directions in cases not
involving a systemic impact should be removed.

Initiating on-site programs to test the foundation of the three-pillar approach and
directors’ attestations. The RBNZ has performed off-site thematic reviews to profile banks’ risk
management in areas of concern, such as dairy and real estate. The off-site process (PRESS and
iPRESS) rates financial institutions based on their risk profile (and their systemic impact). The onsite activity, which could be undertaken by the staff of RBNZ or by external experts, should be
targeted to areas of high risk, to issues identified through off-site analysis, or to determine how
banks and insurers are managing new risks and products. It is also important to test the
accuracy of the regulatory reports.

Clarifying the responsibilities of the Treasury and RBNZ for financial sector issues,
reinforcing the RBNZ’s role as prudential regulator and supervisor. Unclear boundaries
could potentially compromise RBNZ independence and limit its ability to fulfill its supervisory
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INTERNATIONAL MONETARY FUND
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role. Further delineating the boundaries with the Treasury would enhance the ability of the RBNZ
to undertake effective supervision by responding swiftly to ongoing and emergent situations
(Appendix V).
32.
While the RBNZ has a close home-host relationship with APRA, further strengthening
the collaboration with APRA would help support the key role played by home-country
supervision in New Zealand. The Australian presence has been a source of strength, including the
parental support received following the Canterbury earthquakes. The low intensity approach of
RBNZ is partly mitigated by APRA’s intensive home-supervision. The RBNZ is encouraged to be
more active in the joint on-site visits, focusing on work that serves the objectives of home and host
supervisors. This would help prepare both supervisors for effective coordination also in times of
stress. In addition, the interdependence also exposes New Zealand to shocks originating in Australia
(there is a particular exposure in the case of life insurance because of the significant Australian
presence in branch form, the exemption given to branches from many RBNZ prudential
requirements, and the direct dependence on Australian insolvency law and practice in case of
failure).
Capital Markets
33.
The capital markets regulatory framework has gone through a major overhaul since
the last FSAP, and the supervision of the asset management industry started only recently.
Many capital market players were not licensed or supervised at the time, including asset managers.
Regulatory reform created the FMA as conduct regulator of the financial sector and determined a
licensing regime for managers of Managed Investment Schemes (MIS). Retail offers of MIS are now
regulated and subject to governance, disclosure and eligibility requirements. The FMA completed
initial licensing of MIS managers and is refining a risk-based approach to supervision of the sector.
34.
Private entities, called Financial Markets Supervisors (Supervisors), are now licensed
and are expected to play a role in the monitoring of MIS managers. Under the old regime,
trustees were appointed to act on behalf of the unit holders of investment funds. Under the new
regulatory framework, MIS offered to retail investors are required to appoint a Supervisor. These are
private companies licensed by the FMA to carry out certain statutory supervisory activities, including
primary oversight of significant features of the MIS framework, such as monitoring the adequacy
and use of asset valuation policies, custody, leverage and liquidity risk management. There are
challenges and benefits from leveraging off the work of Supervisors and the FMA is encouraged to
keep the risks and appropriate responses under constant review. The FMA needs to ensure that it
has oversight of areas relevant to the stability of the sector, where more technical expertise and a
macro perspective are required, and ensure the quality of Supervisors work.
35.
The overall regulatory framework for asset management is well developed, but there
is scope to consider broadening its perimeter. The provision of custody services does not require
a license in New Zealand and, therefore, falls outside of direct supervision by the FMA—or by any
other authority. The government could usefully require that these entities be subject to licensing
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and supervision. Also, wholesale asset management activities are not covered by the FMC Act. This
sector may not be significantly larger than the retail sector, but there is insufficient data to assess its
risks.
Financial Market Infrastructures
36.
FMIs are heavily dependent on the four largest banks and a potential failure of one of
the main banks would put severe stress on all FMIs and the market as a whole (Box 1). In this
context, the reform of the regulatory and oversight framework for FMIs is welcomed. The RBNZ and
the FMA, which are jointly responsible for the regulation and oversight of FMIs, currently lack
sufficient legal powers to identify and address risks building up in FMIs, partly because the regime is
voluntary and the authorities do not have the appropriate toolkit. Proceeding with the proposed
reforms will make New Zealand better aligned with international standards. The proposed regime
will provide the authorities with legal powers for the oversight of systemically important FMIs, a
gradual range of enforcement powers, and crisis management and regulatory powers.
Implementation of the new regime will need more oversight resources than those currently planned.
Box 1. Network Analysis of FMIs and their Members
The landscape for FMIs is densely interconnected, with
many FMIs having the same members. Members can
be banks, other financial institutions and government
agencies. High interconnectivity suggests that financial
or operational failures of a given FMI, or a critical
member, could quickly propagate through the financial
system if proper safeguards are not in place.
The figure in this box shows different clusters within
the network. The largest overlap of members exists
between ESAS, SBI, and HVCS. NZ Clear and NZCDC
largely form their own “network clusters.” Banking
groups are most heavily centered in the
ESAS/SBI/HVCS cluster, but are highly connected to NZ
Clear as well. By contrast, nonbank financial groups are
largely uninvolved with ESAS/SBI/HVCS but are
connected to NZ Clear and NZCDC.
The size of the arrows between the FMIs and their members represents the settlement volume. Banking
groups are the dominant share of New Zealand FMI transactions. Nonbank financial groups and domestic
government bodies are the next most active sectors, but their share of transaction volume is low by
comparison (measured in NZD). Overall, membership in New Zealand FMIs is dominated by Australian
banks, followed by New Zealand banks. Three Australian banks have a membership in all FMIs, whereas the
four Australian banks represent 80 percent of total settlement volume. Although trading volumes of New
Zealand members are lower, they are highly connected with all domestic FMIs.
Source: IMF staff.
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37.
Adopting international principles for FMIs in secondary legislation, formalizing
supervisory practices, and increasing staff resources are important. Detailed requirements
support FMIs, their owners, and operators, in understanding oversight expectations and provide
guidance in the drafting of public self-assessments, increasing transparency. In addition, although
the quality of the oversight staff is high, their low number results in an ‘ad hoc’ approach to
supervision. Supervisory staff does not conduct supervisory standard assessments, and has limited
time for the analysis of broader themes that are relevant for financial stability, such as cyber
resilience of FMIs, crisis management arrangements and risks related to the use of overseas FMIs.
Thus, significantly stepping up resources is key. Furthermore, the FMA is encouraged to publicly
disclose their role and responsibilities in relation to the oversight of domestic and foreign FMIs.
Financial Integrity
38.
Since the 2004 FSAP, the AML/CFT regime of New Zealand was assessed by the
Financial Action Task Force (FATF) and strengthened by the authorities. The authorities notably
amended the AML/CFT Act addressing the main deficiencies identified by the FATF, and assessed
the country’s ML/TF risks. Professional services/gatekeepers and legal persons with complex
ownership structures were identified as highly vulnerable to ML, with drug crimes, fraud, tax evasion
and foreign predicate crimes generating the most significant levels of illicit proceeds. The authorities
are taking steps to align the legal framework with the FATF 2012 standard by mid-2017, updating
the ML/TF risk assessments, and preparing for the next FATF assessment scheduled for 2019.
39.
While significant progress was made, shortcomings remain and further strengthening
the AML/CFT regime is necessary. Several designated non-financial businesses and professions
are not fully subject to AML/CFT requirements. In particular, lawyers and accountants (who perform
customer due diligence obligations on behalf of more than 40 percent of financial institutions)
should be subject to AML/CFT measures and supervision in line with the standard – although the
Government has recently introduced legislation to address the issue. Moreover, additional measures
should also be taken so that the authorities have timely access to up-to-date beneficial ownership
information of legal persons and arrangements.
Correspondent Banking Relationships
40.
New Zealand banks have closed accounts of Money Transfer Operators (MTOs) and
the authorities have taken an active approach to help enhance remittance corridors. Average
transfer costs are trending up and available data suggests that the MTO market has become more
concentrated, with the volume of remittances to Small Pacific States remaining broadly stable over
the last few years. The RBNZ issued a statement in 2015 clarifying Anti Money Laundering (AML)
obligations and advocating a measured risk management approach by banks. In addition,
government agencies are providing technical assistance to Small Pacific States, including on
combating money laundering and the financing of terrorism (ML/CFT), modernizing payments
infrastructure in several islands, and supporting innovative remittance transfer solutions.
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CRISIS MANAGEMENT
41.
There are several unique considerations on contingency planning and crisis
management arrangements in New Zealand. These include the minimally resourced approach to
supervision and emphasis on self-discipline and market discipline, strong interdependence with
Australia, and a long-standing decision not to introduce deposit insurance arguing that it would
weaken self-discipline by banks and market discipline by depositors.18 The Council of Financial
Regulators (CoFR), comprised of the FMA, the RBNZ, the Treasury, and the MBIE (portfolio
responsibility for the FMA), is an advisory and coordinating body.
42.
Domestic crisis managements arrangements should be strengthened and greater
clarity is required on the decision-making process for dealing with a crisis and exercise of
resolution powers. The detailed planning undertaken in trans-Tasman work-streams must be
supported by a similar domestic process to ensure logistics and communication plans are prepositioned. Work on preparing procedural guidance for the use of resolution tools needs to be
completed, as does the development of rosters of potential statutory managers and staff from
government, agencies and the private sector that could be mobilized to deal with a crisis. In
addition, the RBNZ Act and Insurance (Prudential Supervision) Act 2010 (IPSA) should be revised to
require post-reporting by the RBNZ on performance against resolution objectives to enhance
accountability. The RBNZ Act should be revised to have the same power as in the IPSA to apply for
the appointment of a liquidator. A special resolution regime paralleling that in the IPSA should be
introduced for nonbank deposit-takers. Most importantly, the RBNZ should be the sole resolution
authority, with clear mandates and accountabilities, requiring the approval by the MoF only for
resolutions with fiscal or systemic implications. The Treasury’s role should focus on whether and how
to provide a guarantee or public funds in support of a resolution recommended by the RBNZ, and
provision of advice to the Minister in this respect.
43.
From June 2013, large banks have been required to comply with the RBNZ’s OBR Prepositioning Requirements Policy. The OBR was developed to provide a credible alternative to the
use of public funds when resolving systemically important banks. OBR does not actually resolve a
failing bank, but rather is a tool to take control of the institution and continue operations while
seeking a resolution. The goal of the OBR is to allow a distressed bank to continue its core banking
services to retail customers and businesses, while placing the cost of a bank failure on the bank’s
shareholders and creditors rather than the taxpayer. All banks with over NZD 1 billion of deposits
are required to participate. There are many complexities to be addressed if the OBR is to be seen as
a credible alternative to a bail-out. These arise from policy choices with respect to the RBNZ’s
supervisory approach and absence of one of the usual safety-net components, deposit insurance,
absence of some direct legal powers, and the challenges of dealing with any large failing institution.
18
In 2008, amid the GFC, a temporary retail deposit guarantee scheme was introduced and it was wound down in
December 2011.
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44.
The introduction of a deposit insurance framework is the first-best element to
complete the financial safety net. OBR involves freezing a portion of balances—including
deposits—to cover any losses beyond what the bank’s capital position could absorb. As the
authorities have reiterated their long-standing opposition to deposit insurance, it is recommended,
as a second best option, to introduce limited deposit preference to provide a clear legal foundation
for a de minimis exemption from freezing and haircutting deposits in OBR. The RBNZ public
consultation has suggested a de minimis exemption of NZD 500, but it is recommended that a
higher amount, established in legislation, would provide some of the benefits of deposit insurance –
such as mitigating against runs and reducing the political pressure to bail out depositors.
Authorities’ analysis suggests that NZD 10,000 per depositor would exempt the full amount of 80
percent of the number of bank deposits, while still leaving the bulk by value of deposits at risk.19
Moreover, the issuance of additional capital instruments with write-down and convertibility features
could be considered, to provide a further buffer of bail-inable liabilities. However, caution is needed
as the majority of these instruments have been purchased by individual investors who may not fully
appreciate the assumed risks.
45.
Further work on the trans-Tasman framework for assessing systemic importance and
discussing coordinated responses would help support decision-making in an actual crisis.
There is no ex-ante consensus on the single-or multiple-point of entry resolution strategies. While
there has been progress on a framework for assessing systemic importance, and discussions on
coordinated responses, the authorities involved have national mandates and accountabilities, which
may constrain their ability to agree in advance on measures to deal with a potential crisis whose
precise details are unknown. In addition, the Trans-Tasman MOC should be expanded (and
renamed) to include insurance and FMIs.
19
This is well below the two to three times per capita GDP rule of thumb commonly used in determining deposit
insurance limits, and reflects the fact that most New Zealanders do not accumulate large savings in bank deposits.
Deposits in registered banks and equity in investment fund shares represented about 60 percent and 23 percent,
respectively, of household financial assets as of June 2016.
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Appendix I. New Zealand: Implementation Status of
2004 FSAP Recommendations
Recommendations
Status
Disclosure-based regime
Partially implemented
Maintain the quality, scope, and timeliness of disclosure to
ensure it continues to meet best international practice
The RBNZ implemented Pillar 3 (along with the rest of Basel II)
in early 2008 by updating and expanding the existing capital
adequacy disclosure in their disclosure regime. However, this
was done in a slimmed-down version, providing what was
judged to be sufficient information for the New Zealand
market. There have been several add-ons to Pillar 3 in recent
years, which the RBNZ has mostly not implemented because
they do not consider them material for New Zealand banks or
particularly meritorious (e.g. banks’ remuneration policies and
practices). Some changes were made in early 2013 to reflect
Basel III updates (covering the new classification of capital
instruments, more detail on their terms etc., and the new types
of capital ratio including the CET1 ratio and the buffer ratio).
The regulatory stocktake exercise currently being undertaken
by RBNZ is looking at options to improve the disclosure
regime. As part of this exercise, the main change being
proposed is to introduce a simple and accessible quarterly
‘dashboard’ that facilitates comparison across banks. The
dashboard would present key financial information on all
locally incorporated banks in a standard format in one place
on the RBNZ website.
Importance of independent directors
Implemented
Fit-and-proper criteria should continue to apply in a
comprehensive manner. The RBNZ could offer independent
bank directors the possibility of discussing areas of concerns
without absolving directors of their statutory responsibilities
In June 2010, the RBNZ introduced new corporate governance
requirements for New Zealand incorporated registered banks
(which came into effect in 2012). The changes were broadly
designed to strengthen the independence of locally
incorporated foreign-owned banks (vis-à-vis their parents).
Post-GFC, the RBNZ has also significantly increased its
engagement with independent directors.
Surveillance
Partially implemented
For banks, monitor more regularly liquidity and large
exposure early warning indicators. Consider commissioning
third-party reports and establish a small specialist team to
make focused, on-site visits on particular aspects of credit
and operational risk
The RBNZ elected not to establish a small, specialist in-house
team to make focused on-site visits on particular aspects of
credit and operational risk.
In 2010 the RBNZ introduced a prudential liquidity policy
(BS13) to address funding liquidity risks (including the relative
reliance of New Zealand banks on short-term wholesale
market funding).
The RBNZ also started collecting private (regulatory) data on a
monthly basis, on any ‘large exposures’ that are in arrears
(since late 2008). This regulatory data collection is also used to
ensure that banks are tracking these exposures on an ongoing basis. The new regulatory report, which will apply to all
registered banks, will require banks to list their largest credit
exposures, irrespective of their credit ratings.
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Recommendations
Crisis management and bank resolution
Review possible approaches to bank resolution, and the
operational and legal consequences that might arise, with a
view to establishing internal operational guidelines.
Status
Partially implemented.
The Reserve Bank Amendment Act of 2003 introduced several
changes to RBNZ powers to respond to a bank in distress or a
failure situation. These changes removed the need for the
RBNZ to consult with a bank before giving directions to a
bank, or to remove, replace or appoint directors (but, as
before, these powers still require the consent of the MoF). The
2003 Amendment Act also introduced changes to the
appointment of a statutory manager (for a specified period as
opposed to indefinitely as previously).
In early 2005 a trans-Tasman Council on Banking Supervision
was formed to help enhance the coordination of home-host
regulatory issues between the New Zealand and Australia. In
2006, another Amendment Act formally implemented the
Government’s response to various recommendations of this
new Council. The RBNZ is now required to implement its
powers vis-à-vis the banking system in such a way as to avoid
any detrimental impact on financial system outcomes in
Australia, to the extent that is reasonably practicable. A
reciprocal provision was included in Australian legislation. In
addition, any statutory manager appointed to oversee a
troubled financial institution is required to consult with APRA.
In addition, a Memorandum of Cooperation on Trans-Tasman
Bank Distress Management was signed in 2010. The
Memorandum is designed to help assist participants to reach a
coordinated response to financial distress in any bank or
banking group that has significant operations in Australia and
New Zealand.1 The Memorandum does not pre-commit to, or
rule out, any particular resolution options.
The GFC prompted the accelerated development and
implementation of a mechanism to resolve a bank in distress
while minimising the impact on the financial system. OBR, in
principle, allows a distressed bank to be closed overnight and
placed into statutory management (at the decision of the
Minister following recommendation from the RBNZ).
Nonbank supervision
Review practices and resource needs for the government
agencies involved in oversight, especially the offices of the
Registrar and the Government Actuary, with a view towards
enhancing public access to timely and comprehensive data
Partially implemented
The regulatory landscape for nonbank financial institutions
(NBFIs) has altered considerably since the last FSAP. This has
involved both prudential and market conduct dimensions. In
2006 a working group was established tasked with ‘reviewing
financial products and providers’ (RFPP) to develop an effective
and consistent framework for regulation of nonbank lenders.
The RFPP led to the RBNZ assuming responsibility for the
regulation of nonbank deposit-takers (where supervision rests
with trustees who are licensed by the FMA) following a 2008
Amendment Act.2 The Insurance (Prudential Supervision) Act
2010 completed the shift to the single prudential regulator
model. The RBNZ does not regulate nonbank non-deposit
taking lenders.
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Recommendations
Status
The FMA was established in 2011 reflecting recommendations
to consolidate a range of different financial regulatory
functions into a single financial markets securities regulator. As
a result, the role of the Government Actuary was disestablished
in April 2011 and its functions, powers and responsibilities
were incorporated within the FMA in May 2011. The Insurance
and Superannuation Unit, previously responsible for managing
the oversight and regulation of the Superannuation Schemes
Act and the KiwiSaver Act, was also disestablished in April
2011. The staff of the Insurance and Superannuation Unit
transferred to the FMA.
A new online register—the Disclose Register—has been put in
place to provide the market with information about investment
products, and act as a vehicle for issuers to upload documents,
data and information. The FMC Act established two registers; a
register for offers of financial products (split into debt and
equity securities, derivatives and managed investment
products), and a register for managed investment schemes
(split into managed funds and other managed investment
schemes). The Disclose Register contains both of these
registers. The Companies Office and the Registrar of Financial
Service Providers (the Registrar) are the administrators of the
Disclose Register.
The Disclose Register provides an online tool for issuers and
managers to register and manage information about their
offers and schemes, and fulfil many of their compliance
obligations. Once fully populated, it will also provide investors
with one source of information about offers of financial
products and managed investment schemes. By midnight on
30 November 2016, most existing offers and schemes must be
registered on the Disclose Register. Until then, there is a
transition period during which issuers and managers may be
able to rely on other existing enactments to maintain existing
offers and schemes.
The Financial Service Providers Register (FSPR), created in
2008, is a searchable online register of the people, businesses,
and organisations that offer financial services in New Zealand.
The purpose of registration is to enable the public and
regulators to access information about financial service
providers, and to prohibit certain people from providing
financial services. Nevertheless, registration as a financial
service provider is not an official approval of an individual,
business, or organisation and does not necessarily indicate
that the provider is licensed or regulated in New Zealand or
any other country. The FSPR also records any licences or
authorisations that the financial service provider may have
under the RBNZ Act 1989, Insurance (Prudential Supervision)
Act 2010, Financial Advisers Act 2008, Financial Markets
Supervisors Act 2011, and Financial Markets Conduct Act 2013.
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Recommendations
Securities markets regulation
Enhance the regulatory framework by including minimum
standards of conduct for collective investment scheme
operators, improving reporting mechanisms, strengthening
standards and penalties relating to market abuse, and
strengthening oversight of market intermediaries that are
not exchange members.
Status
Partially implemented
Significant changes have been made to New Zealand’s
securities regime since the last FSAP review. Some of these
developments can be traced to the 2004 recommendations,
while others are a response to other factors, most notably, the
GFC. The 2006 RFPP led to a fundamental shift in the approach
to securities regulation with the establishment of the FMA in
2011 and new standards for market conduct culminating in the
introduction of the Financial Markets Conduct Act 2013 (the
FMC Act).
The FMA was established to consolidate a range of different
financial regulatory functions into a single financial markets
securities regulator, and also to administer a new regulatory
framework, which consolidated the regulation of securities into
a single regime. However, because of the increased urgency of
improving confidence in financial markets as a result of the
GFC, the FMA was in fact established prior to the completion
of the new regulatory framework designed to complement the
new institutional structure – the FMC Act.
The FMC Act provides a regulatory framework for financial
conduct. It governs the way financial products are offered,
promoted, issued and sold. This includes the on-going
responsibilities of those who offer, issue, manage, supervise,
deal in and trade financial products. The FMC Act also
regulates the provision of certain financial services. In
particular, it introduces licensing for providers of CIS to retail
investors. The FMC Act was progressively brought into force
from April 2014. Although the new regime was in effect on 1
December 2014, most regulated entities had until 1 December
2016 to transition from the old to the new regime.
1
Parties to the memorandum are: the RBNZ, New Zealand Treasury, the FMA, RBA, APRA, Australian Treasury, and ASIC.
2
Statutory provisions relating to NBDTs were later carved out into a separate Act – the NBDT Act 2013.
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Appendix II. Overview of FSAP Stress Testing
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Domain
Institutions
included
Market share
Data
Five major banks: ANZ Bank New Zealand Ltd; ASB Bank
Ltd; Bank of New Zealand, Westpac New Zealand Ltd., and
Kiwibank Ltd. The criteria used to determine the
institutional perimeter include: firms’ balance sheet, firms’
share in the lending market, and firms’ role in the New
Zealand payment system
About 90 percent of total banking sector assets.
Effective date: June 2016.
Effective date for market risk: June, 2016.
Data: Supervisory data, publicly available data.
Data: Supervisory data, publicly available data (bank
disclosures, Bloomberg, Thomson Reuters, Dealogic, Markit,
Haver Analytics, Moody’s KMV, Bankscope, SNL,
International Financial Statistics (IFS), IMF Global
Assumptions (GAS), and IMF WEO).
Scope of consolidation: Consolidated group basis.
Stress testing
process
TD by FSAP Team
Four major banks: ANZ Bank New Zealand Ltd; ASB
Bank Ltd; Bank of New Zealand, and Westpac New
Zealand Ltd. The criteria used to determine the
institutional perimeter include: firms’ balance sheet,
firms’ share in the lending market, and firms’ role in
the New Zealand payment system
About 85 percent of total banking sector assets.
Effective date: June 2016.
Effective date for market risk: June, 2016.
RBNZ uses its own structural models for real estate
exposures (TUI model) and the dairy stress portfolio
(model for defaults on dairy lending).
The results aggregation process includes adjustments
based on expert judgment including losses for other
portfolios.
Scope of consolidation: Consolidated group basis
The FSAP team conducts its own TD macroprudential stress
test based on the WEO/RBNZ forecast (baseline) and the
IMF’s Global Macrofinancial Model with inputs from the
RBNZ (adverse).
For expected losses, a separate credit risk model is
calibrated for 5 economic sectors (drawing on RBNZ
supervisory data) and core industry sectors (drawing on
market-based data).
For unexpected losses in IRB portfolios, PDs are estimated
from stressed loan loss provision ratios linked to IRB
models and allowing for RBNZ regulatory overlays on
farming lending and mortgage exposures.
43
For STA exposures and specialized lending subject to the
slotting approach, stressed NPL ratios, stressed coverage
ratios, and a stressed transition matrix for performing
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The RBNZ conducts its own TD macroprudential stress
test based on the WEO/RBNZ forecast (baseline) and
IMF’s Global Macrofinancial Model with inputs from
the RBNZ (adverse).
Appendix III. Stress Test Matrix (STeM):
Solvency and Liquidity Risks
1. Institutional
perimeter
Banking Sector: Solvency Test
Framework
TD by Authorities
Domain
Banking Sector: Solvency Test
Framework
TD by Authorities
TD by FSAP Team
exposures are projected.
For robustness, the TD stress test includes projections using
RBNZ’s structural TUI model on borrowers’ balance sheets
and a detailed stress test of banks’ mortgage book by LTV
vintage using a Merton-based option-value approach.
For market risk, stress to major sovereign issuers is modeled.
2. Channels of
risk
propagation
Methodology
Risks are projected using a variety of structural credit
risk models (based on borrowers’ stressed financials),
macro modeling (based on historical relationships
between key macroeconomic and financial variables
under stress) and expert judgment.
RBNZ models the impact of a sharp rise in wholesale
and retail funding costs, and how the increase in
funding costs is passed on to customers, drawing on
banks’ BU stress test results and expert judgment.
A comprehensive battery of econometric and structural
models is specifically developed and calibrated for the 2017
New Zealand FSAP.
Over 100 credit risk models are estimated for PDs based on
bank-level regressions, panel-based regressions, and
multivariate vector autoregressive models (VAR) with
principal component analysis (PCA).
Over 25 models are estimated to project solvency and
funding cost interactions and contagion from peer banks.
Lending rates are linked to shocks to deposit rates and
wholesale funding spreads, projected in line with the macro
scenario, bank-specific solvency ratios and funding stress in
peer banks.
Shocks to NIMs are modeled as a function of RBNZ’s Official
Cash Rate, money market shocks, and the slope of the yield
curve, with pass-through effects estimated empirically, and
linked to the interest repricing schedule for each bank as of
June 2016.
Bank specific wholesale spreads are linked to the behavior of
ytm spreads of active bonds at the peak of the GFC under the
adverse scenario and over the last two years under the
Domain
Banking Sector: Solvency Test
Framework
TD by Authorities
TD by FSAP Team
baseline scenario.
Domain
3. Tail shocks
Scenario analysis
Banking Sector: Solvency Test
Framework
TD by Authorities
TD by FSAP Team
Mark-to-market losses from full revaluation of sovereign
securities, excluding balance sheet hedges.
The adverse scenario is calibrated using the IMF’s Global Macrofinancial Model and auxiliary models estimated by the
RBNZ drawing on historical crisis-episodes in New Zealand, Australia, and the United Kingdom.
This scenario is characterized by deteriorating global conditions from a sharper than expected global growth
slowdown, tighter and more volatile conditions, a credit cycle downturn in China, and persistently lower commodity
prices. The global downturn impacts directly on Australia and New Zealand. Additional spillovers hit New Zealand
through financial linkages with Australia, autonomous confidence effects, and a sharp correction in the New Zealand
real estate market and equity market.
This scenario constitutes a 2.4 standard deviation move in two-year cumulative real GDP growth rate by 2018,
calculated over 1990–2016.
The scenario includes an additional idiosyncratic and system-wide funding risk shock triggered by dislocation of money
markets and linked to banks’ capital ratios under stress and contagion from other New Zealand banks.
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New Zealand GDP growth contracts by - 1.4 percent in 2017 relative to a baseline projection of 2.5 percent growth rate.
Real GDP reaches a peak deviation from baseline levels at -7.1 percent in 2018–19, which is higher than the 4.1 percent
assumed in the 2014 joint stress test undertaken by APRA and RBNZ. Unemployment peaks at over 10 percent by end2018 and there is persistent disinflation over 12 quarters. There is a sharp real estate market correction, with a peak-totrough decline of 40 percent for residential prices, and 30 percent for CRE. In addition, the real equity price index falls
by 30 percent by end-2018. The deep recession increases banks’ credit risk with money market rates peaking in 2017,
and bank credit falling by 20 percent relative to baseline levels by 2021. This is accompanied by the steepening of the
yield curve induced by a rebound in the term premium driven by internationally correlated duration risk premium
shocks, pushing up long-term lending rates.
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Banking Sector: Solvency Test
Framework
TD by Authorities
Sensitivity
analysis
4. Risks and
buffers
Positions/risk
factors assessed
Credit risk
Mortgage loans credit risk losses projected using the
TUI model, a structural approach to the understanding
and measurement of residential mortgage lending
risk.
Rural portfolio credit risk losses projected using the
dairy portfolio model that incorporates cross-sectional
data and considers behavioral assumptions of the
drivers of default.
Other sectoral categories in the credit book include:
SME/corporate lending, CRE lending, consumer
lending, sovereign/bank lending (“liquid bonds”).
Operational and market risk
Driven by mark-to-market losses of the liquid asset
portfolio. Losses are reversed as bonds mature.
Profits
Margin compression as banks push down lending
margins to alleviate customer distress. Also, they are
unable to pass higher funding spreads on to fixed
term mortgage customers.
Regulatory impact
Phase-out of Tier 1 and Tier 2 instruments according
to transitional rules.
TD by FSAP Team
Concentration risk.
Shocks to NZL residential house prices impacting stressed
LGDs.
Shocks to the NZD swap curve.
Shocks to net interest margins.
Additional calibration informed by 2016Q3 banks’ reverse
stress test exercise.
Credit risk
IRB and Standardized exposure.
Positions include retail exposures, corporate exposures,
sovereign/public sector exposures, and exposures to financial
institutions.
Covered bonds and securitization exposures are included.
Off-balance sheet exposures using baseline and stressed
Credit Conversion Factors (CCFs) are included.
Sovereign risk
Mark-to-market valuation of securities (from shocks to
interest rates and credit spreads) in trading book and
AFS/FVO linked to macro scenario.
Market risk other than sovereign risk
Market stress from shocks to changes in interest rates and
credit spreads.
Profits
Income from loans and non-loan activities.
Interest income declines for the amount of lost income from
defaulted loans.
Interest income from non-defaulting loans is estimated
according to satellite models.
Interest expenses increase due to rising funding costs linked
to the macroeconomic scenario with empirically estimated
pass-through, stressed capital ratios and contagion from peer
banks.
Net fee and commission income and other income evolve
with macroeconomic conditions and banks’ balance sheets.
No change in business models (no rebalancing of portfolio).
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Domain
Domain
Banking Sector: Solvency Test
Framework
TD by Authorities
TD by FSAP Team
Balance sheets evolve over the stress horizon according to
the scenario.
Regulatory impact
The effects of the phase-out of no-longer-eligible additional
Tier 1 and Tier 2 capital are included. No conversion of
additional Tier 1 capital is assumed during the stress horizon.
Dynamic balance sheets
Calibration of
risk parameters
Parameter definition
Parameter definition
PiT credit loss rates for expected losses and TTC PDs
and LGDs for regulatory capital requirements (RWAs).
PiT, PDs and LGDs for expected losses.
PiT TTC-adjusted PDs and TTC LGDs for regulatory capital
requirements (RWAs).
PDs are blended PDs (i.e., include both defaulted and nondefaulted counterparties) by asset class.
LGDs are calculated post credit risk mitigation by asset class.
Credit supply effects are disallowed to calibrate credit risk projections.
Balance sheets evolve with key macroeconomic aggregates adjusting for credit demand effects.
EAD under stress from off-balance sheet exposures increases about 5-10 percent on average, reflecting higher use
of undrawn credit and liquidity facilities. As a conservative assumption, all facilities are assumed to be contractually
irrevocable (“committed”) to extend funds in the future.
Maturing assets are replaced by exposures of the same type and risk.
Dividends are linked to banks’ net profits. Under positive profits, the dividend payout floor is set at 30 percent
subject to dividend restrictions if banks breach their capital conservation buffer. Otherwise, no dividend payout is
assumed.
The effective tax rate evolves with the macro scenario.
Losses are recognized in the same year that loan is impaired.
If banks’ capital ratio falls below regulatory minimum during the stress test horizon, no prompt corrective action is
assumed.
Parameter calibration
For IRB exposures, shifts to RWAs are informed by
banks’ BU stress test results, historical experience
during the GFC and expert judgment.
Parameter calibration
47
For IRB exposures, shifts to PDs are informed by shocks to
credit risk losses and banks’ estimated PDs calculated in
historical stressed episodes.
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5. Regulatory
and marketbased
standards and
parameters
Behavioral
adjustments
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TD by FSAP Team
Shocks to LGDs are projected using a Merton-based
approach for mortgage exposures, shocks to unemployment
for retail unsecured exposures, and shocks to GDP for
corporate exposures.
PDs and LGDs evolve with the macroeconomic and financial
variables of the scenario.
For STA exposures and specialized lending subject to the
slotting approach, inflows into NPL categories are based on
a panel regression, including risk migration for performing
exposures, and stressed coverage ratios.
Regulatory
standards
6. Reporting
format for
results
Output
presentation
Capital definition according to Basel III/RBNZ rulebook, including CET1, Tier 1, and total CAR.
The CET1 ratio is computed using Basel III end-point definition.
Capital components that are no longer eligible for additional Tier 1 and Tier 2 capital components follow a frontloaded Basel III transitional path according to RBNZ’s regulatory capital framework with complete phase-out by January
1, 2018.
CET1/Tier 1/CAR ratio hurdle rate at 4.5/6.0/8.0 percent of RWAs for regulatory minimum capital breach with an
additional 2.5 percent hurdle rate for capital conservation buffer breach.
Leverage ratio (3 percent hurdle rate met with Tier 1 capital) using the Basel III definition, notwithstanding the fact that
the NZ liquidity regulatory framework does not include a leverage metric.
Evolution of CET1, Tier 1, CAR for the aggregate banking system.
Distribution of individual CET1, Tier 1, CAR in the banking system.
Contribution of key drivers to aggregate net profits and aggregate CET1 capital ratios.
Number of banks and share of total assets below hurdle rates.
Capital shortfall in terms of nominal GDP.
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Domain
Banking Sector: Solvency Test
Framework
TD by Authorities
Liquidity Stress Testing Matrix
Domain
1. Institutional perimeter
Institutions
Market share
2. Channels of risk
4. Tail shocks
Selection criteria: RBNZ liquidity returns under BS13.
All fifteen locally incorporated banking institutions.
Data and base date
The one-week and one-month maturity mismatch is based on supervisory data as of August 31 2016, under
the RBNZ liquidity policy framework (BS13).
The one-week and one-month quasi-LCR test is based on supervisory data as of August 31 2016. The
definition of HQLA is stricter than under APRA’s Basel III LCR implementation under APRA’s Prudential
Standard APS 210 Liquidity given the lack of a fee-paying contingent credit line facility in New Zealand.
Methodology
Basel III measures of liquidity risk—the quasi-LCR conducted on three calibrated scenarios.
propagation
3. Risks and buffers
IMF designed stress test conducted jointly with the RBNZ
A cash-flow analysis based on RBNZ’s mismatch ratio.
A general maturity mismatch analysis by maturity bucket based on RBNZ’s CFR.
Risks
Funding liquidity risk, rollover risk, and market liquidity risk.
Buffers
HQLA securities assessed at market values net of haircut on a security-by-security basis.
Size of the shock
A range of adverse scenarios
LCR Scenario under standard assumptions calibrated by BCBS.
An LCR “New Zealand wholesale stress” scenario. This scenario replicates the liquidity stress observed during
the GFC. It is characterized by: (i) a freeze of wholesale funding on the interbank market, secured funding
market via repo and covered bonds, and the commercial paper market (with run-off rate for operational
deposits of 75 percent and for not-fully covered corporate deposits of 100 percent), and (ii) liquidity risk
from shocks to secured funding backed by RMBS to 50 percent and shocks to undrawn but committed credit
and liquidity facilities with run-off rates of 50 percent for supervised banks and other financial institutions.
Implied cash flow assumptions include haircuts of up to 60 percent for securities and bank loans that can be
mobilized in repos, no issuance of new unsecured funding and freeze of securitization markets, call-back
rates of up to 100 percent, and cash outflows of up to 75 percent.
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An LCR “New Zealand retail stress” scenario. The calibration of this deposit run-off scenario replicates the
peak stress observed in relevant comparator jurisdictions during the GFC.
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Domain
5. Regulatory standards
Regulatory standards
IMF designed stress test conducted jointly with the RBNZ
Counterbalancing capacity above net cash outflows under stress scenario.
Basel III transitional arrangement for the LCR ratio at 80 percent.
6. Reporting format for
results
Output presentation
CFR above RBNZ’s regulatory 75 percent threshold.
Changes in average liquidity position and counterbalancing capacity for each scenario.
Distribution of banks’ liquidity position under each scenario.
Number of banks with counterbalancing capacity below net cash outflows.
Banks’ post-shock net liquidity position.
Liquidity shortfall in terms of banking system total liabilities.
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Liquidity Stress Testing Matrix
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Appendix IV. The RBNZ and the IMF Stress Tests
The RBNZ stress test results are broadly comparable to the IMF stress test results using the
commonly agreed scenario and RBNZ’s in-house credit risk models in combination with
expert judgment. Under the RBNZ test, results are computed for the aggregate balance sheet of
the big four banks. Under the adverse scenario, aggregate Tier 1 capital is projected at around 8.4
percent at the low point, and total capital ratios reaching about halfway through the conservation
buffer at the worse point. This is broadly comparable to IMF aggregate results with stress tests
conducted on individual balance sheets covering the five largest banks.

Credit risk losses are substantial with a weighted-average cumulative bad debt expense over the
5-year horizon of around 4.0 percent relative to starting loans under the IMF test and
3.6 percent of starting assets under the RBNZ test. The aggregate projection masks some
dispersion in loss rates across credit portfolios, ranging between 1.4 percent of bad debt
expense for housing loans, 5.4 percent for real estate and SMEs, 7.0 percent for the rural
portfolio, and 12.3 percent for personal loans under the IMF test, relative to projected loss rates
of 2.1 percent for housing loans, 6.0 percent for CRE, 9.0 percent for the rural portfolio, and
10.0 percent for personal loans under the RBNZ test.

Market risk losses are larger under the IMF stress test as trading securities and AFS securities
suffer marked-to-market losses. This is driven by a widening in money market spreads due to
credit risk shocks and the steepening of the yield curve triggered by term premium shocks
across debt markets. Given the composition of banks’ securities portfolio as of June 2016,
market shocks lead to an accumulated asset valuation loss of around 10 percent. This is a very
conservative estimate as hedges assumed are to not operate under stressed market conditions.
By contrast, liquid assets were treated as HTM securities under the RBNZ test and were hit by an
accumulated loss rate of 0.3 percent.

Interest risk losses are material as bank funding costs increase under stressed money market
conditions and banks’ ability to pass funding shocks through to lenders is constrained, being
capped at 50 percent in the IMF test. The sharp rise in funding costs is driven by the combined
effect of a shock to the reference rate, credit risk concerns over bank debt as capital buffers are
eroded under stress, and system-wide contagion from weaker banks. However, the impact of
funding shocks on banks’ capital buffers is somewhat mitigated by thin maturity gaps in the
banking book and sound interest rate repricing schedules.1 Overall, net interest margins
compress by around 60 bps at the low point of the stress from 2.2 percent in June 2016.
Reverse stress tests conducted by the four large banks reveal that bank capital ratios are
robust to a severe macroeconomic downturn but could be exposed if there was also a
compression of margins and a spike in operational risk. While the loss rate reported by banks
under their bespoke extreme scenarios are not too different from the FSAP macro stress test and the
2015 common ICAAP scenario, net profits reported by some banks are hit by a compression of
1
For residential mortgage loans, the average number of months to rate reset stands at around 11 months.
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margins of around 100 bps over the 3-year scenario. Capital buffers are also eroded by an increase
in operational risk losses reaching an average 11 percent of credit losses, and leading to rising
regulatory capital requirements.
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Appendix V. Report on the Observance of Standards and Codes:
Basel Core Principles for Effective Banking Supervision—
Summary Assessment1
Introduction
The primary goal of this assessment of the implementation of the BCP by the RBNZ is to focus
authorities on areas needing attention. The BCP are a framework of minimum standards for sound
supervisory practices which are considered universally applicable, and are mainly intended as a
common benchmark to assess the quality of supervisory systems and to provide input into a
country’s reform agenda. The current assessment was conducted against the standard issued by the
Basel Committee on Banking Supervision (BCBS) in 2012.2 This assessment is part of the FSAP
undertaken by the IMF in 2016. The assessment is based on the regulatory and supervisory
framework in place at the time of this visit.
The scope of the assessment is RBNZ supervision of the registered banks. Other financial
industries supervised by the RBNZ are not covered in this assessment. In addition, the assessment is
not intended either to represent an analysis of the state of the banking sector, the macroprudential
policy framework, or crisis management framework, which are addressed in dedicated technical
notes of this FSAP.
The supervisory approach of the RBNZ reflects the characteristics of the local banking
industry and the authorities’ goal to limit moral hazard by relying on market discipline and
not offering deposit insurance. The RBNZ approach relies on three pillars: market discipline, based
on public disclosure; self-discipline, based on bank directors’ attestations of public information; and
regulatory discipline, based on a simple and conservative regulatory framework, off-site monitoring,
and disciplinary actions. It also relies on synergies with APRA home-country supervision of
Australian banks’ operations in New Zealand. In practice, though, the RBNZ approach is in conflict
with the BCP requirements, which expect granular regulatory guidance and on-site independent
verification work by the supervisor.3 The RBNZ aims to strengthen supervision while retaining its
current approach. Against this backdrop, the purpose of the exercise was to assess the effectiveness
of New Zealand’s banking supervisory systems and practices against the Core Principles, which are
neutral with regard to different approaches to supervision, so long as the overriding goals set by
each Principle are achieved.
1
The assessment team included Antonio Pancorbo, IMF, and José Tuya, IMF external expert.
2
Basel Committee on Banking Supervision: Basel Core Principles for Effective Banking Supervision, May 2012:
http://www.bis.org/publ/bcbs230.pdf.
3
“On-site work is used as a tool to provide independent verification that adequate policies, procedures and controls
exist at banks, determine that information reported by banks is reliable, obtain additional information on the bank
and its related companies needed for the assessment of the condition of the bank, monitor the bank’s follow-up on
supervisory concerns, etc.” (BCBS: BCP standard, page 30).
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The assessment was conducted taking into account the unique characteristics of the New
Zealand banking industry. The banking market is highly concentrated and dominated by four large
Australian subsidiaries, whose share of total banking sector assets was 83 percent as at June 2016.
The four subsidiaries are significant to their parents as well (about 15 percent of group earnings and
total assets on average). Enhanced formal and informal cooperation arrangements with APRA reflect
the unique codependence of the two banking systems and are aimed at providing substantial
synergies in support of the RBNZ fulfilling its prudential responsibilities. There is one large stateowned bank and the rest are small banks, both foreign- and domestic-owned. The supervisory
approach for those institutions differs from that for the larger banks, but although small, they can
still pose reputation risk for the RBNZ.
The mission held extensive meetings with RBNZ officials, as well as the Treasury, FMA, APRA,
the industry, and relevant third parties who generously shared their views. The assessment
team visited the cities of Wellington and Auckland in New Zealand, as well as Sydney and
Melbourne in Australia. The assessors would like to acknowledge the very high quality of
cooperation received from all the authorities. In particular, the team extends its thanks to RBNZ staff
who provided a very comprehensive, high-quality self-assessment, and who responded promptly
and comprehensively during the mission to the extensive information requests from the team.
Overview of the Institutional Setting and Market Structure
The RBNZ is the prudential supervisory authority of New Zealand. Its responsibilities include the
prudential regulation and supervision of registered banks and insurers, regulation of NBDTs, the
oversight of the payment system (and settlement systems jointly with the FMA), and AML/CFT
supervision for banks, NBDTs and life insurers. The RBNZ acts as lender of last resort and exercises
crisis management powers. Some crisis management powers and the power to make regulations are
exercised together with the MoF and the Governor-General acting on recommendation from the
RBNZ. In 2013 the RBNZ introduced a framework for macroprudential policy vis-à-vis the banking
sector under its existing objectives and powers.
The GFC had a mild negative impact on the New Zealand banking sector, but a significant
number of finance companies had difficulties over 2006–2010 and were put into receivership.
While liquidity pressures arising from the GFC were the trigger for closures in some cases, failures
were caused well before then, mainly by problems with asset quality, connected lending, and credit
management. Although the New Zealand banking sector was relatively unscathed during the GFC,
several factors not necessarily related to bank supervision contributed to the maintenance of
financial stability. Among other factors, banking business models in New Zealand are simple and the
parent banks of the large subsidiaries were in a position to support their New Zealand operations
and were subjected to an effective and intensive home-country supervision.4
4
In addition, unexpected funding-liquidity risks that materialized for the New Zealand banking system, given a
relative reliance on wholesale funding, were contained by unprecedented emergency liquidity facilities and support
provided by the RBNZ.
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The banking sector focuses its activities on lending to the domestic private sector and
providing traditional products. The sector seems to be well capitalized and to have sufficient
liquid assets, the quality of assets is high, and profitability has remained stable over the last 10 years.
Nevertheless, the financial sector is relatively dependent on wholesale funding, including foreign
currency funding sourced from offshore markets. While foreign funding has declined since the GFC,
it still accounts for 19 percent of banks’ liabilities. As of October 2015, over 80 percent of banks’
liabilities (including deposits and minus equity) had a maturity of below one year, and 65 percent
was on demand or with maturity of less than 3 months.
Preconditions for Effective Banking Supervision
New Zealand is a small open economy, underpinned by strong policy frameworks.5
New Zealand’s modern economy benefits from a strong commitment to open-market policies that
facilitate vibrant flows of trade and investment. Transparent and efficient regulations are applied
evenly in most cases, encouraging dynamic entrepreneurial activity in the private sector.
The fiscal and monetary policy authorities are independently responsible for their respective
areas of policy. The Treasury is responsible for maintaining a stable and sustainable
macroeconomic environment, and fiscal policy is one of its main tools. The RBNZ, for its part, is
responsible for ensuring price stability as defined by the Policy Targets Agreement signed between
the MoF and the Governor. The RBNZ is operationally independent regarding monetary policy
formulation. The RBNZ Act also enables the Governor-General, on the advice of the MoF, to direct
the RBNZ to formulate and implement monetary policy for any economic objective, other than
ensuring price stability, for a period not exceeding 12 months.
New Zealand has a defined institutional framework for financial stability policy formulation.6
The RBNZ has independent decision-making power vis-à-vis macroprudential policies empowered
by the RBNZ Act. A MoU signed in May 2013 outlines the governance arrangements for the use of
macroprudential tools. During the 2008–2009 crisis the RBNZ established a new committee, the
Macrofinancial Committee, to focus explicitly on macrofinancial stability issues. New Zealand has
actively used macroprudential tools to address systemic risks.
New Zealand has a well-developed public infrastructure to support its financial system. New
Zealand ranks in the 97–100th percentile of all countries for the World Bank key indicators of
governance.7 They are Voice and Accountability, Political Stability and Lack of Violence, Government
Effectiveness, Regulatory Quality, Rule of Law, and Control of Corruption. While all six indicators are
5
A complete analysis of the macroeconomic framework can be found in IMF’s macroeconomic surveillance reports.
For example, Article IV consultations: http://www.imf.org/external/pubs/cat/longres.aspx?sk=43678.0.
6
See further in the accompanying 2016 FSAP Update Technical Note on Macroprudential Institutional Framework
and Policies.
7
See http://info.worldbank.org/governance/wgi/pdf/c168.pdf
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important settings for financial stability and other regulatory purposes, government effectiveness,
regulatory quality and the rule of law are particularly important. In this regard New Zealand has:

An adaptable and responsive legislature able to maintain ongoing law reform.

Quality laws relating to business organization, business and personal insolvency, personal and
real property registration and transfer, and consumer protection.

An independent judiciary of high standing.

Institutions responsible for and able to administer and enforce market conduct and competition
law (FMA and the Commerce Commission).

Strong independent professions (legal, accounting and actuarial) and adherence to international
and professional standards (IFRS, actuarial standards, etc.).

Support for freedom of contract, property rights and the rights of the individual and protection
from arbitrary action by the government, consistent with a developed economy.

A well-developed corporate and commercial law.
The prudential regime provides a number of triggers under which the RBNZ may apply failure
resolution or crisis management powers. The legal framework for resolution of banks is
established in the RBNZ Act. Upon identifying an institution as failing or likely to fail, the RBNZ
recommends to the MoF initiation of resolution through the appointment of a statutory manager. In
addition, OBR has been developed as a tool, not tested yet, to provide a credible alternative to a
bailout should it become necessary to resolve a systemically important institution. Nevertheless,
greater clarity is required on the decision-making process for dealing with a crisis and the exercise
of resolution powers.8
The RBNZ has a statutory lender-of-last-resort role. To mitigate liquidity risks, the RBNZ
introduced a prudential liquidity policy in 2010 designed to encourage banks to self-insure against
funding-liquidity risks. The Australian parents could previously provide contingent funding to the
New Zealand subsidiaries up to 50 percent of the parent’s Tier 1 capital. APRA has since tightened
its prudential requirements relating to related party exposures to the New Zealand subsidiary banks
reducing their non-equity exposures to 5 percent of Tier 1 parent capital. New Zealand banks are
also required to set up contingent funding arrangements that are secured by instruments that are
exempt from resolution actions in New Zealand, such as covered bonds which were introduced to
help manage and diversify funding liquidity. Banks started issuing covered bonds in 2010 due to
difficult market conditions.
There is no ex ante depositor protection insurance in New Zealand. This reflects both current
government policy and the RBNZ’s long-standing view that the emphasis should be on reducing the
See further in the accompanying 2016 FSAP Update Technical Note on Contingency Planning and Crisis
Management Framework.
8
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moral hazard attached to any public perception of the government backstopping all or part of the
financial system (implicit guarantee). In addition, the RBNZ considers that deposit insurance is
challenging in a highly concentrated system. It is also not well suited to dealing with systemic
failures. That said, a temporary opt-in retail deposit scheme was introduced in 2008 in order to give
assurance to New Zealand depositors (of registered banks and NBDTs) in light of financial market
instability. Initially for two years, the scheme was subsequently extended until December 2011. The
government plans on considering the merits of an explicit depositor protection scheme, in
conjunction with crisis governance, in due course.
The regulatory and commercial environment in New Zealand supports market discipline. This
is particularly the case in those industries that operate under free-market conditions.9 In addition,
the RBNZ is committed to bank disclosure, and there are no restrictions on the ability to move
deposits and other investments from bank to bank. Market discipline in the banking industry of New
Zealand is less idiosyncratic than it is assumed in the RBNZ supervisory approach. Large maturity
mismatches make banks’ financial structures extremely fragile worldwide, threatening massive losses
and the disruption of financial services to the broad economy. To protect the economy from
systemic risks, governments provide public safety nets. To break a systemic crisis, there is commonly
no other option than to call on public resources. This is more so in the context of welfare state
systems. Recent experience in New Zealand with the public policy response to the GFC and the crisis
of the finance companies may well illustrate the case.10 For free-market processes to operate in an
unfettered way in the banking industry and play a beneficial disciplinary role, all sorts of implicit and
explicit public safety nets would need to be dismantled, and socially and economically critical
payments and settlement systems should be able to continue their operations despite a bank failure.
Otherwise, market discipline in the banking industry has to be complemented by, and often
replaced by, effective regulatory discipline.
Main Findings
Since the last FSAP, the RBNZ has increased attention to strengthening regulatory discipline,
following international standards in substance. For example, the RBNZ has adopted the new
Basel capital framework, issued supervisory guidance and increased regulatory reporting. In 2016,
the RBNZ began the final stage of a multi-year upgrade of its supervisory non-public statistical and
prudential reporting from banks. The supervisory policies published are, for the most part, related to
“conditions of registration” and, thus, enforceable. The RBNZ has performed off-site thematic
reviews to profile banks’ risk management in areas of concern, such as dairy and real estate. An offsite process (PRESS) is in place that rates banks based on their risk profile and their systemic impact.
An AML/CFT supervision process has been implemented.
Market discipline in general can be understood as the disciplinary force exercised by market participants and
geared towards providing a competitive environment, removing bad performers, and promoting good ones. The
main driver of effective market discipline is the personal assumption of profits and losses as a consequence of free
exchanges.
9
To learn more about the finance companies crisis, see, for example: House of Representatives. New Zealand
Parliament: “Inquiry into finance company failures." October 11, 2011.
10
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The effectiveness of the current approach to supervision is limited by the heavy weight placed
by RBNZ on market discipline as compared to regulatory discipline (and to intensive
supervision in particular). A defining feature of RBNZ’s approach is the absence of independent
testing of prudential returns and risk management practices for prudential purposes. In particular,
the RBNZ avoids detailed on-site inspections, either by its own staff or external experts, concerned
that this would weaken bankers’ incentives to ensure robust controls.11 The RBNZ needs to reevaluate whether the lack of a more intensive approach, including an increased on-site program,
may undermine market and self-discipline. In addition, the current approach makes it difficult for
supervisors to develop expertise on bank operations, hampering the effectiveness of their analysis
and policy development.
The assessors were very impressed with the quality and competence of the RBNZ staff;
however, insufficient resources are a serious impediment to achieve compliance in-substance
with the BCP. The RBNZ’s staff operate under resource constraints and a mere reallocation would
not be enough, even if the current low-intensity approach is retained. Strengthening the regulatory
discipline pillar will require a reassessment of resources and technical capacity. To continue
enhancing the supervisory process, an increase in staffing is required to a level that would at least
enable the RBNZ to develop an on-site program that tests the foundation of the three pillar
approach, to deepen the analysis that supports the PRESS ratings, and to issue supervisory
guidelines that promote preventive actions.
The self-discipline pillar relies on directors’ attestations to the fact that the bank has adequate
risk management systems in place. However, the RBNZ has issued limited guidance as to what
constitutes adequate risk management. The vacuum created by the RBNZ not stating its
expectations on adequate risk management is likely filled by foreign banks basing their attestations
on home-country supervisors’ standards. For domestic-owned banks, it is likely that each may be
following standards adopted from different sources. The RBNZ is very familiar with the Australian
standards, but for the next tier of foreign-owned banks (as well as for the tier of domestic-owned
banks) it would need to review standards on-site. Not issuing standards may result in an uneven
playing field as some banks may be following stricter standards than others, thus diminishing the
value of disclosures as directors are attesting to different standards.
An effective self-discipline regime needs to be supported by a well-developed regulatory
framework and swift enforcement when banks violate the rules. The RBNZ has broad
enforcement powers, but the lack of regulatory benchmarks mentioned before and the high legal
threshold for issuing directions (orders) make swift enforcement less likely. To issue directions under
section 113(1)(e) of the RBNZ Act when a bank is conducting business in a non-prudent manner the
consent of the MoF is required. Demonstrating imprudent behavior based on, for example,
inadequate risk management or insufficiently developed risk appetite statements, is made difficult
by the lack of supervisory standards. As a result, the RBNZ’s enforcement is currently based primarily
on breaches that have already occurred and is not preventive.
11
The only exception is in the case of AML/CFT supervision, where an on-site program is in place.
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Recommended actions in this report seek to improve compliance with the BCP, and enhance
the effectiveness of the RBNZ three-pillar approach. Key recommended actions as developed in
this report, include: (i) amending section 78 of the RBNZ Act to make compliance with RBNZ-issued
supervisory policy evidence of prudent banking; (ii) issuing supervisory policy documents as
warranted (for example on credit risk); (iii) carrying out targeted on-site programs (directly or
through external experts) to verify regulatory reports, risk management, and the quality of credit
exposures; (iv) enhancing proactive cooperation within the trans-Tasman agreements to support
cross-border synergies in supervision; (v) considering options to facilitate the taking of enforcement
action based on supervisory judgment; and (vi) improving analysis to support PRESS ratings by
retaining work papers to document determinations on adequacy of risk mitigants.
An important precondition for effective banking supervision is the willingness to act. As is
well-established IMF policy,12 a positive assessment of the supervisor’s ability to act—based on its
resources, authority, organization, constructive working relationships, and as evidenced by actions
taken to impose corrective action—is not sufficient to ensure effective supervision. This must be
complemented by the “will” to act in order to take timely and effective preventive actions in normal
times, and corrective actions in times of stress. Developing this “will to act” requires a clear and
unambiguous supervisory mandate, operational independence coupled with supervisory
accountability and transparency, skilled staff, and an arm’s-length relationship with the industry that
avoids “regulatory capture.” The Principle by Principle assessment reflects on the supervisor’s “ability
to act” and the conditions needed for their “will to act.” However, effective supervision also requires
as a catalyst a political will that cannot be measured nor evaluated externally.
This section summarizes the main findings of the detailed assessment conducted in the
context of the FSAP. Built on these main findings, Table 1 below presents briefly a sense of the
degree of compliance with each of the 29 principles that comprise the BCP.
Responsibilities, Objectives, Powers, Independence, and Cooperation (CPs 1–3, and 13)
While the responsibilities of RBNZ as banking supervisor are defined in law, there are
ambiguities at an operational level. The statutory objectives of the RBNZ are broadly defined as
“promoting the maintenance of a sound and efficient financial system; or avoiding significant
damage to the financial system that could result from the failure of a registered bank.” Broad
definitions of concepts such as “sound and efficient financial system,” “significant damage,” or a
focus on “systemic implications” only, have allowed the RBNZ to develop over time a particular
hands-off supervisory philosophy that departs from conventional, more resource-intensive
supervisory practices.13 For example, the current approach has limited appetite for independent
verification of supervisory returns and first-hand knowledge of the soundness and risk management
Jose Viñals, et al., (2010) The Making of Good Supervision: Learning to Say No, IMF Staff Position Note 10/08:
http://www.imf.org/external/pubs/ft/spn/2010/spn1008.pdf.
12
The MoF’s letter of expectations for the RBNZ Board, of April 22, 2016, will help clarify how the objectives of
soundness and efficiency are promoted and balanced, and to judge performance with respect to RBNZ’s functions.
See https://www.beehive.govt.nz/release/english-releases-rb-board-letter-expectations.
13
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of individual banks. The supervisory objectives have to be clarified at an operational level. Towards
this end, the RBNZ is currently defining its risk appetite framework, which will reinforce the RBNZ’s
statutory objectives by translating them into practical outcomes, and clarify how supervision has to
be conducted in practice.
RBNZ staff are highly qualified, but numbers are clearly insufficient to conduct effective
supervision, even if on-site work was conducted by external experts under RBNZ prudential
mandates and guidance. Insufficient resources are a serious impediment to developing an effective
and intrusive supervisory approach carefully tailored to the characteristics of New Zealand’s banking
industry and bearing in mind potential synergies stemming from the trans-Tasman agreements. The
RBNZ should reassess the adequacy of the resources assigned to its banking supervisory function.
This will make it possible to address the recommendations of this assessment that are oriented
toward strengthening the supervisory process, enhancing knowledge and risk assessment of
supervised entities, facilitating early action and preparedness for crisis management, and allowing
staff to analyze broader themes relevant for financial stability.
While coordination and collaboration with the government is defined in law and supported
by a MoU, boundaries between areas of responsibility may need to be further clarified in
practice. The Act provides the RBNZ with powers to operate at arm’s length from the government
and MoF, subject to control functions and checks and balances embedded in the legislation.
However, the role of the Treasury as adviser to the Minister in relation to the RBNZ’s primary
responsibility for prudential supervision, as governed by an MoU signed in 2012, creates ambiguities
in practice with regard to the respective roles of the RBNZ and Treasury that need to be clarified. In
addition, the authorities may wish to consider aligning the RBNZ Act with the IPSA and Nonbank
Deposit Takers (NBDT) Act by removing the role of the Minister in issuing directions (as discussed
below regarding CP11). At the moment, lack of clarity on roles and attributions have mostly
manifested in deficiencies in effective coordination on policy advice. However, ambiguities have the
potential to lead to undue delays in issuing prudential regulations or government interference in
prudential issues, if RBNZ technical expertise on prudential matters is not clearly recognized.
Strengthening the collaboration with APRA will support the reliance of the RBNZ on synergies
from home-country supervision. The RBNZ has a unique and close home-host relationship with
APRA, which reflects the heightened co-dependence between the financial systems of Australia and
New Zealand. This is underpinned in legislation and further given effect through bilateral MoUs and
the Trans-Tasman Banking Council (TTBC), set up in 2005.14 That said, arrangements for cooperation
and collaboration could be used proactively to further serve RBNZ’s and APRA’s joint interests as
well as helping each to achieve their own objectives in a cost-effective manner for the supervisors
and the industry. For example, RBNZ could seek proactive engagement during the on-site visits
conducted by APRA, in order to gain knowledge of, and confidence in, the home supervisory
See “Terms of reference for the Trans-Tasman Council on Banking Supervision”:
http://www.rbnz.govt.nz/regulation-and-supervision/banks/relationships/terms-of-reference-for-the-trans-tasmancouncil-on-banking-supervision.
14
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approach and the techniques that are central to APRA’s supervisory model.15 Building sound crossborder relationships takes time and will prepare both supervisors for an effective coordination in
times of stress. The need for a more coordinated approach by the two supervisors was a widely-held
view among the stakeholders who met with the assessors.
Methods of Ongoing Supervision (CPs 8–10, and 12)
The New Zealand banking system has some unique characteristics which have influenced the
supervisory process followed by the RBNZ. The largest four banks are subsidiaries of Australian
banks and individually represent a significant investment and earnings source to the parents. As a
result, the home-country supervisor (APRA) maintains robust monitoring of the subsidiaries as part
of their consolidated supervision. Accordingly, a strong home-host relationship has been established
between APRA and the RBNZ, providing the RBNZ with sufficient information to develop a high level
of comfort on the regulatory standards met by the Australian banks and their financial condition. In
this context, the RBNZ is able to tailor their supervision-by-risk to reflect their higher risk tolerance,
and not incorporate some supervisory standards considered essential in the BCPs.
Ongoing supervision by the RBNZ is based on the three pillars of market, self and regulatory
discipline. Market discipline is accomplished through public disclosure and publication of financial
information. The main elements of self-discipline are corporate governance, particularly the RBNZ
requirement that bank directors attest in the published financial statements that risk management
systems “are in place to monitor and control adequately all material risks of the banking group.”
Regulatory discipline has increased since the 2004 BCP assessment with the issuance of supervisory
rules and guidelines in areas viewed as significant by the RBNZ. These areas include but are not
limited to: capital (Basel II and III), liquidity, outsourcing, related party lending, and corporate
governance. In addition, to support regulatory discipline, an off-site financial analysis system (PRESS)
has been put in place to identify, measure, and monitor risk areas and arrive at a risk rating for
registered banks.
The RBNZ follows a non-intrusive approach to supervision. In particular, guidelines and
regulations avoid establishing hard limits or prescriptiveness in most areas, and detailed on-site
inspections are not conducted. It is the supervisory philosophy of the RBNZ that the banks’
management and directors are in the best position to design risk management systems and
establish limits based on the risk appetite and capital available to support those risks. Through
off-site reviews of risk appetite statements, financial information, reports submitted to bank
management, and on-site visits to meet with bank management and directors, conclusions are
drawn about the reliability of directors’ attestations and compliance with RBNZ guidelines.
The guidance issued by the RBNZ does not sufficiently communicate its expectations on the
elements it considers necessary in management systems to monitor and adequately control
material risks. Therefore, directors’ attestations may be based on differing benchmarks and
Specific areas where collaborative work can be explored may include governance, risk assessments, underwriting
standards, execution of common tasks, and crisis preparedness.
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expectations. It is likely that foreign-owned banks are filling the vacuum left by the lack of RBNZ
guidelines with their home country supervisors’ guidelines and requirements. For the locally-owned
and incorporated banks, the vacuum may be filled from various sources. Without its own detailed
review of individual banks’ operations, the RBNZ is, in essence, relying on the adequacy of home
country standards for the foreign-owned banks. For the locally-owned banks, testing of attestations
through bank-specific reviews is required to determine the adequacy of standards being followed.
The RBNZ does not conduct inspections, and on-site interaction with banks takes the form of
prudential meetings and primarily focuses on the 10 largest banks. The meetings provide an
opportunity to discuss results of supervisory analyses and other issues that may have been identified
by the RBNZ. Thematic visits have also been conducted to review systemic issues in deeper detail.
The scope of the thematic visits does not include direct access by supervisors to bank records or
files, with the review relying on increased information requests and questionnaires. The RBNZ
participates as an observer during on-site inspections by APRA. Overall, the lack of first-hand
independent verification of prudential returns and assessment of banks’ risk management practices
prevents the RBNZ from having a thorough understanding of the banks.
PRESS serves as the risk assessment tool for measuring and monitoring risks. The PRESS
process incorporates 10 risk areas and adds a systemic impact factor to arrive at an aggregate
numerical rating for the bank, reflecting its risk profile and systemic impact. Macroeconomic factors
and stress testing results (conducted by RBNZ or individual banks) add a forward-looking aspect to
PRESS. Information reviewed includes bank internal reports and, increasingly, information from
regulatory reports. Although some forward-looking elements may be included, the ratings are
primarily results-oriented. The analysis conducted to support the ratings is not well documented and
is based primarily on banks’ internal risk reporting.
The RBNZ does not conduct effective consolidated supervision. The supervisory approach, risk
and prudential reporting requirements, and monitoring and analysis are based on the registered
bank’s banking group as defined in conditions of registration. The conditions of registration allow
supervision to be conducted on a subconsolidated basis, i.e., to focus on the registered bank and its
subsidiaries. The wider banking group or conglomerate would not be supervised. Nevertheless, the
corporate structures of New Zealand banking groups are simple and there are no material foreign
operations of New Zealand incorporated banks. The four banking groups with more complex
structures are large Australian banking groups supervised by APRA. Attention to consolidated
supervision is focused on the assessment of “parent support” as a PRESS risk factor, as well as
maintaining good communication with the insurance supervisory function of the RBNZ and FMA.
The RBNZ has the ability to change its approach to consolidated supervision if the risk profile of the
banking groups changes.
Ownership, licensing, and structure (CPs 4–7) are not areas of particular concern at the time
of this assessment. Registration by the RBNZ is what constitutes a bank, and not what business an
entity carries on. This situation may have created lack of clarity in the past as many other entities
were carrying on bank-like activities such as accepting deposits. But since 2013, all NBDTs are
licensed by the RBNZ. Their supervision is entrusted to their private sector trustee companies based
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on RBNZ sectoral regulations. Transfer of significant ownership happens very infrequently in New
Zealand, because ownership of most of the registered banks is concentrated in single banking
groups, and because of the small number of institutions. Major acquisitions were not a significant
activity at the time of the assessment.
Corrective and Sanctioning Powers of Supervisors (CP11)
The RBNZ has broad powers for imposing corrective action or sanctions, but issuance of
directions requires the prior consent of the MoF. Under section 113 of the RBNZ Act, with the
consent of the MoF, the RBNZ may issue directions requiring banks to take corrective action,
remove or replace directors, auditors, or management and cease any unsafe business activity.
Directions may be imposed to correct violations, but also to address actions not considered prudent
by the RBNZ. Enforcement powers have been recently used to require disclosure re-publication,
impose additional conditions of registration or to require additional reporting.
The RBNZ has issued limited guidance establishing a framework for identifying banking
activities and practices considered unsound and not prudent. The lack of a detailed regulatory
framework supporting supervisory judgment makes issuance of preventive directions more difficult.
Directions may be issued when the bank or associated persons are conducting business in a manner
prejudicial to the soundness of the financial system, or the business of the bank is not being
conducted in a prudent manner. The threshold to issue a direction is high and the lack of
supervisory guidance on what constitutes prudent banking (other than the broad description in
section 78) makes use of supervisory judgment more difficult. Additionally, even bank-specific
directions not having systemic implications require the prior consent of the MoF.
Although largely untested, the enforcement (directions) process may result in the RBNZ being
reactive with its corrective action. Use of supervisory judgment is enhanced when the supervisor
has issued enforceable guidelines on risk management processes. Also, the requirement that the
Minister consent to bank-specific directions (section 113(1)(e)) may impose additional burdens and
reduce the timeliness of enforcement actions.
Corporate Governance (CP14)
Although not enforceable by the RBNZ, the Companies Act of 1993 establishes requirements
on corporate governance and the RBNZ has issued prudential requirements (Document BS14)
providing additional guidance to banks. BS14 incorporates fit-and-proper principles from the
Basel Committee’s 2010 paper: Principles for enhancing corporate governance. BS14 also addresses
Board composition and the inclusion of independent directors. Although BS14 refers to the Basel
paper, only areas directly linked to conditions of registration are enforceable.
The RBNZ monitors compliance through off-site reviews, but the scope is not sufficiently
detailed to meet the BCP standard. Supervisory activities do not include determining the level of
engagement by boards and their oversight of senior management, nor does it include a review of
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governance structures, management selection, remuneration decisions and whether the Board
adequately communicates corporate culture or establishes a strong control environment.
Prudential Requirements, Regulatory Framework, Accounting, and Disclosure (CPs 15–29)
The RBNZ does not impose direct requirements on banks to have comprehensive risk
management policies and processes, except in the areas of capital adequacy and liquidity. The
RBNZ relies on the required attestation provided by directors with every financial statement
disclosure that: “the bank had systems in place to monitor and control adequately the material risks
of the banking group, including credit risk, interest risk, currency risk, equity risk, liquidity risk,
operational risk, and other business risk, and that those systems are being properly applied.”
Accuracy of the disclosure is tested off-site by the RBNZ through report analysis and by on-site
interviews with bank management.
Liquidity policy (BS13) requires banks to comply with a number of quantitative and
qualitative standards. The policy establishes a number of quantitative measures based on balance
sheet ratios and cash flows to arrive at one-week and one-month percentages of liquidity outflow to
total funding. Also computed is a one-year core funding ratio, required to be not less than
75 percent. The results of the liquidity requirements yield broadly similar results as application of
Basel III.
Connected (Related) Party Exposures Policy (Document BS8) establishes requirements on
related party transactions, including limits and transactions being on market terms. The policy
establishes an aggregate limit on all related party exposures of 125 percent of Tier-one capital and
15 percent on aggregate nonbank related party exposures, by condition of registration. The
aggregate limit on net exposures (under robust bilateral netting agreements) is set according to the
bank’s rating, with a maximum of 75 percent of Tier 1 capital. The policy does not require that
transactions with related parties and their write-off receive prior Board approval, and the definitions
do not cover all types of related party that are required by Principle 20. Compliance is monitored
off-site, but information is aggregated and is not adequate to monitor related party lending risk.
The RBNZ seeks to follow the Basel guidance for capital adequacy to the extent that the
guidance is appropriate for New Zealand (BS2 A and B). The RBNZ has implemented the Basel II
Internal Models Based Approach (BS2B: four banks are accredited to use the IRB approach) and
Standardized approaches (BS2A). The RBNZ takes a simple and conservative approach to capital
adequacy. The main conceptual divergence from the Basel framework is the implementation of the
leverage ratio, which the RBNZ has not considered at this stage, and is kept under review in light of
other countries’ experiences. Other departures from the Basel framework (such as, Pillar 2, Pillar 3,
SIFI surcharges) can be considered examples of regulatory policy decisions tailored to national
circumstances. The capital framework is currently under review.
New Zealand’s legal framework ensures that the financial statements of every bank are
prepared in accordance with New Zealand equivalents to internationally recognized
accounting standards (NZ IFRSs). The financial statements are audited by a qualified external
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auditor in accordance with auditing standards applicable in New Zealand that are equivalent to
internationally recognized auditing standards (ISAs).16 The RBNZ relies on the external auditing
process and director attestations to determine for prudential reasons whether banks use valuation
practices consistent with IFRSs. The RBNZ routinely meets with the external auditor of the 10 largest
locally incorporated banks. However, these meetings do not cover valuation practices, an area
specifically trusted to external auditors. Other areas of supervisory responsibility delegated to
external auditors are normally not covered in these meetings either.
Please see IFRS country profile in the IASB website: http://www.ifrs.org/Use-around-theworld/Documents/Jurisdiction-profiles/New-Zealand-IFRS-Profile.pdf
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Table 1. New Zealand—Summary Compliance with the Basel Core Principles
Principle 1. Responsibilities, Objectives, and Powers
RBNZ’s objectives are defined consistently with this Principle. However, at an operational level some
uncertainty has arisen because of the practical interpretation given to broadly defined legal terms.
In addition, it is also of concern that responsibilities for banking supervision are not clearly defined and
understood by all authorities involved, as further discussed in CP2.
Principle 2. Independence, Accountability, Resourcing, and Legal Protection for Supervisors
RBNZ’s shortage of banking supervision staff and limited resources are serious impediments to developing
an effective supervisory approach, even if the current low-intensity approach were maintained.
In addition, although the RBNZ Act gives the RBNZ powers to operate at arm’s length from the government,
subject to checks and balances embedded in legislation, the Act should be aligned with the IPSA and the
NBDT Act by removing the role of the Minister in issuing directions. Section 68B and current arrangements
under the 2012 MoU create ambiguities in the role of the RBNZ and Treasury that, if not addressed
decisively, may lead to undue government interference in the primarily prudential responsibilities of the
RBNZ.
Principle 3. Cooperation and Collaboration
The framework for cooperation and collaboration with relevant domestic authorities, particularly the
Treasury, may create ambiguities, given their mutual advisory roles and responsibilities for resolution and
prudential policy, as discussed in CP2.
The framework for cooperation and collaboration with APRA, as the relevant foreign supervisor, is
outstanding. However, given the unique co-dependence between the RBNZ and APRA, the RBNZ may wish
to explore additional practical and proactive ways of collaborating with APRA, to deliver supervision of the
cross-border systemically important banks in a manner that is cost-effective for both the supervisors and
the industry.
Principle 4. Permissible Activities
The permissible activities of institutions that are licensed and subject to supervision as banks are clearly
defined and the use of the word “bank” in names is controlled. The authorities, however, need to assess risks
posed by companies registering in New Zealand and offering bank-like or other financial services only
abroad.
Principle 5. Licensing Criteria
The registration process is compliant with CP5.
Principle 6. Transfer of Significant Ownership
The framework is adequate and transfer activity is not significant in the New Zealand banking sector at the
time of the assessment. Future assessments of the BCP will need to consider the materiality of this activity in
the banking sector.
Principle 7. Major Acquisitions
See comments on Principle 6 above.
Principle 8. Supervisory Approach
The primary methodology employed by the RBNZ to assess risks off-site is PRESS, which functions as an
early warning system by tracking trends and measuring possible impact on the banking system. The
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Table 1. New Zealand—Summary Compliance with the Basel Core Principles (continued)
supervisory approach relies on the market discipline provided by disclosure and transparency, backed by
attestation from directors as to the adequacy of risk management. Regulatory discipline is imposed through
off-site monitoring, interviews with bank management, enforcement when deficiencies are uncovered and
by a limited issuance of supervisory policies. The analysis is not documented, and it does not include a
detailed evaluation of risk mitigants. The results of PRESS are not specifically discussed with banks.
Principle 9. Supervisory Techniques and Tools
The RBNZ does not rely on on-site inspections as a supervisory tool. Attestations by directors are not
verified by on-site reviews but by reviewing documents requested off-site. Meetings with banks provide an
opportunity to discuss supervisory findings and bank risks. Stress testing is required in the ICAAP process
and is also performed by the RBNZ.
Principle 10. Supervisory Reporting
The RBNZ does not independently verify the prudential returns, and is not planning to do so. Currently,
verification of supervisory returns and the valuation framework for prudential purposes consists of crosschecking different reporting outcomes for consistency.
Principle 11. Corrective and Sanctioning Powers of Supervisors
The RBNZ Act provides broad powers to the supervisor. Section 113 grants powers to issue directions, with
the consent of the MoF, to require corrective action and impose sanctions. Section 78 defines “prudent
manner;” a bank’s failure to conduct business in a prudent manner may lead to the bank being issued a
direction. However, issuance of a direction based on BS documents or supervisory judgment is hampered as
the threshold is high. Enabling the issuance of bank-specific directions without the need for MoF consent,
and more directly linking compliance with BS documents setting out expectations for prudent banking
would facilitate the use of supervisory judgment and timely supervisory action.
Principle 12. Consolidated Supervision
The RBNZ’s supervisory approach focuses on the registered bank’s banking group as defined in conditions
of registration and the RBNZ Act, i.e., the registered bank and its subsidiaries. The wider banking group or
conglomerate would be considered in respect of funding or capital support, and contagion or reputation
risk implications e.g., through the assessment of parent support in the PRESS assessment.
Nevertheless, the concept of proportionality is considered in the assessment as discussed under “Methods
of ongoing supervision” (under “Main Findings,” see above).
Principle 13. Home-host Relationships
The RBNZ is not a home supervisor for any bank with material cross-border operations. As host supervisor,
the RBNZ has a close home-host relationship with APRA. However, there is still scope for the RBNZ to take
advantage of more proactive coordination and collaboration with APRA to fulfil the RBNZ’s supervisory
objectives and tasks in a cost-efficient manner.
Principle 14. Corporate Governance
BS14 and BS10 establish supervisory policy on Board size and composition, fit-and-proper requirements,
and require directors to act in best interest of the bank. The RBNZ is also planning to enhance its ability to
ensure ongoing suitability of directors/management, since currently non-objection by the RBNZ is only
required at the time of appointment. The guidance issued is limited, and the level of engagement does not
address whether directors are effective and exercise their duty of care, and whether the Board approves and
oversees the implementation of policy and compliance with the risk appetite statement.
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Table 1. New Zealand—Summary Compliance with the Basel Core Principles (continued)
Principle 15. Risk Management Process
While the RBNZ requires banks’ directors to attest to having adequate risk management systems in place, it
has not issued requirements to serve as benchmarks for banks to measure their systems against. Issuing
enforceable requirements would also facilitate effective corrective action or the taking of enforcement
action. The RBNZ takes a high-level approach to determining the adequacy of risk management, relying on
reports reviewed off-site or meetings with the banks. The supervisory approach does not meet most of the
essential criteria that require detailed reviews of operations and a more intrusive approach.
Principle 16. Capital Adequacy
The capital adequacy framework is, in substance, aligned with international standards, with a simple and
conservative bias. Departures from the Basel framework (leverage ratio, Pillar 2, Pillar 3, SIFI surcharges) can
be considered examples of regulatory policy choices tailored to national circumstances. The capital
framework is currently under review.
Principle 17. Credit Risk
The RBNZ does not have requirements on credit risk management policies; does not issue guidance on
credit management processes or Board involvement; and does not verify the adequacy of banks’ processes.
Principle 18. Problem Assets, Provisions, and Reserves
The RBNZ has not issued requirements or definitions on nonperforming loans, forbearance, renewals, cured
loans or loan classifications based on risk. The RBNZ does not issue prudential guidelines on loan loss
provisioning.
Principle 19. Concentration Risk and Large Exposure Limits
The RBNZ does not establish large exposure limits, nor has it issued guidance on the management of
concentration risk. In 2016 an additional regulatory collection of large exposure data was initiated.
Principle 20. Transactions with Related Parties
BS8 on connected (related) party lending establishes a limit on aggregate nonbank related exposure at 15
percent of Tier 1 capital, and aggregate related exposure (including banks) at 125 percent of Tier I capital.
The aggregate limit on net exposures (under robust bilateral netting agreements) is set according to the
bank’s credit rating, with a maximum of 75 percent of Tier 1 capital. The policy does not require prior Board
approval for effecting transactions or write-offs. Exposure to related parties of a bank’s directors is not
included in the definition of bank related parties. Compliance is monitored off-site but information collected
does not provide sufficient detail to monitor related party transactions.
Principle 21. Country and Transfer Risks
The level of country risk is minimal as banks do not actively engage in cross-border exposure. The RBNZ is
very familiar with conditions in Australia where the exposure lies as home country for the four largest banks.
Additionally, Australia country risk is low. The RBNZ closely monitors Australia country risk and the parents
of the subsidiaries in New Zealand.
Principle 22. Market Risk
Capital requirements are based on the Basel 1996 amendment. Estimates of market risk reveal low impact.
RBNZ monitoring is considered proportionally appropriate.
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Table 1. New Zealand—Summary Compliance with the Basel Core Principles (concluded)
Principle 23. Interest Rate Risk in the Banking Book
The RBNZ has not issued guidance on the management of interest rate risk or interest rate risk
strategy/policies nor issued benchmarks for measuring the risk. The RBNZ relies on reviewing banks’ internal
reporting.
Principle 24. Liquidity Risk
BS13 establishes the supervisory policy on liquidity. Quantitative limits are imposed on one-week, onemonth, and a one-year core funding ratio that produce results no less than the Basel standards, according
to RBNZ estimates of the comparisons.
Principle 25. Operational Risk
The RBNZ reviews banks’ operational risk management practices through the review of banks’ management
reports. Detailed guidelines and on-site testing to verify adequacy of bank practices is not performed.
Principle 26. Internal Control and Audit
The RBNZ does not comply with most of the requirements of CP26, nor does it intend to do so. Determining
for prudential reasons that banks have adequate internal control frameworks is left to the bankers
themselves. The role of the RBNZ is to maintain light-handed monitoring based on regular consultations
with bank senior management and directors. Independent verification of internal controls is a critical area to
ensure the soundness of individual institutions.
Principle 27. Financial Reporting and External Audit
New Zealand’s legal framework ensures that the financial statements of every bank are prepared and
audited in accordance with New Zealand equivalents to internationally recognized accounting and auditing
standards. However, the RBNZ does not itself determine that banks use valuation practices consistent with
IFRSs. It relies on the external auditing process and director attestations to provide this prudential outcome.
The RBNZ meets with the external auditor of each of the largest locally incorporated banks. However, these
meetings do not cover valuation practices, or other areas of supervisory responsibility entrusted to external
auditors.
Principle 28. Disclosure and Transparency
The RBNZ is committed and actively engaged in achieving high-quality public disclosure by banks in line
with international standards and practices. The RBNZ should continue its efforts to assess whether public
disclosure meets the needs of the users as a means to enable market discipline. The RBNZ is encouraged to
complement disclosure requirements with information on remuneration as discussed under Principle 14.
Principle 29. Abuse of Financial Services
New Zealand was relatively late in implementing legislation and an AML/CFT regime (in 2013). This has
allowed the RBNZ to benefit from experiences in other jurisdictions, and achieve significant progress in
addressing deficiencies in the pre-2013 regime. The supervisory approach in this area departs from the
hands-off approach to prudential supervision in general. The framework still needs to mature further, and
the next FATF assessment in 2019 will be an important landmark to reassess progress.
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Recommended Actions
Table 2 below lists the suggested actions for improving compliance with the BCPs and the
effectiveness of regulatory and supervisory frameworks.
Table 2. New Zealand—Recommended Actions
Principle 1. Responsibilities, Objectives, and Powers
Develop an operational definition of the RBNZ’s objective for banking supervision to remove possible
ambiguities arising from the broad formulations in the legislation.
Based on these clarifications, consider revisiting some of the key tenets of the supervisory approach, in
particular the absence of independent verification of supervisory returns, and first-hand knowledge of the
soundness and risk management of individual banks and banking groups. This will also raise the
international standing of New Zealand’s banking supervision.
Principle 2. Independence, Accountability, Resourcing, and Legal Protection for Supervisors
As an overall conclusion from this BCP assessment, reassess the level of resources needed to adequately
fulfil the RBNZ’s responsibilities for banking supervision.
The authorities should reassess the need to clearly delineate the roles and responsibilities of the Treasury
vis-à-vis RBNZ’s statutory objectives for banking supervision, to ensure that control functions and checksand-balances do not become undue interference in the execution of RBNZ’s prudential mandate. Similarly,
clarifications should be agreed on the exercise of those sections in the RBNZ Act where the Minister may
have the power to give directions to the RBNZ, particularly section 68B. Clarifications should narrow the
scope for the government to unduly interfere in the statutory responsibilities and routine tasks of the RBNZ
as an independent supervisor. Arrangements and procedures for interaction between the Treasury and
RBNZ, including the interpretation of section 68B, have to be established clearly in such a way that the
relationship between the two organizations is transparent and traceable.
Principle 3. Cooperation and Collaboration
The recommendations in CP2 and CP13, as they relate to cooperation and collaboration with national and
trans-Tasman authorities, also address deficiencies in achieving compliance with CP3.
Principle 8. Supervisory Approach
Increase the analysis of the risk mitigants listed for the individual risks, retain work papers, and share the
results of the analysis with banks.
Principle 9. Supervisory Techniques and Tools
Carry out, or have carried out on its behalf, on-site inspections to verify or test data and information on
which the analysis of key risks relies: for example, the credit portfolio, Board minutes, and the
implementation of Board policies and regulatory reports. On-site reviews can be targeted and their
frequency based on risk.
Principle 10. Supervisory Reporting
The RBNZ is encouraged to develop processes for strong first-hand independent verification of banks’
prudential returns, especially in the areas of earnings and credit asset quality, given the credit profile of the
banking industry. This will allow the effective identification of prudential concerns through an independent
assessment of risks, while ensuring that these risks are mitigated in a timely manner.
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Table 2. New Zealand—Recommended Actions (continued)
Principle 11. Corrective and Sanctioning Powers of Supervisors
Make compliance with BS Policy documents evidence of prudent practice (s78) and eliminate Ministerial
consent for directions under section 113(1)(e) of the RBNZ Act (thereby also aligning with IPSA and the
NBDT Act). These changes would facilitate the implementation of enforcement action on a preventive basis
and support the use of supervisory judgment.
Principle 12. Consolidated Supervision
RBNZ is advised to prepare itself for the possibility that the current circumstances and mitigating factors
change, and develop a proper framework for consolidated supervision. This could include, for example:
developing a proper economic definition of the banking group under supervision; establishing a supervisory
methodology to collect and analyze information on intragroup transactions; and developing formal policies
to limit the scope of foreign operations of New Zealand incorporated banks on the basis of weak host
jurisdictions.
Principle 13. Home-host Relationships
The RBNZ is encouraged to identify areas where policy making and supervisory activities for the day-to-day
supervisory assessment of risks would benefit further from active cooperation and collaborative work with
APRA, to enhance RBNZ’s cost-effective approach to supervision pursuing its own statutory mandate. For
example, RBNZ could pursue a proactive coordinated approach on the assessment of group risk exposures,
risk management, corporate governance and cross-border crisis management.
Principle 14. Corporate Governance
The significant reliance on self-discipline is not supported by published and enforceable supervisory
expectations. The update of BS14 should include expanded guidelines on risk appetite statements, on
required policies to be developed by the Boards, and on codes of conduct.
Principles 15. Risk management process; 17. Credit Risk; and 18. Problem Assets, Provisions, and
Reserves; 19. Concentration Risk and Large Exposure Limits; 20. Transactions with Related Parties; 21.
Country and Transfer Risks; 22. Market Risk; 23. Interest Rate Risk in the Banking Book; and 25.
Operational Risk
Achieving compliance would require a major change to the RBNZ’s supervisory approach.




Supervisory regulations or enforceable policies would need to be issued establishing benchmarks and
requirements for measuring, monitoring and managing risks. This would provide guidance to banks on
supervisory expectations when attestations are made.
A more intrusive approach would be needed, including on-site inspections (by the RBNZ or its
appointed representative) to determine compliance and deepen supervisors’ understanding of banking
operations and risks.
Increase the forward-looking capacity of supervision by increased use of stress testing.
Additional resources and training would be required.
Principles 17. Credit Risk; and 18. Problem Assets, Provisions, and Reserves
As this is the most significant risk in New Zealand, detailed guidelines should be issued, addressing: loan
classification, extended loans, forbearance, nonperforming and cured loans, and provisioning. There need to
be on-site reviews to ascertain credit portfolio quality and to verify the accuracy of internal bank reports
shared with the RBNZ.
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Table 2. New Zealand—Recommended Actions (concluded)
Principle 19. Concentration Risk and Large Exposure Limits
Establish lending limits for concentrated credit exposures and ensure banks are properly aggregating
exposures across any connected group of counterparties.
Principle 20. Transactions with Related Parties
Expand the requirements on related party loans to include prior approval by the Board and reporting on
write-offs for Board approval. Expand the information collected to include terms, names, and repayment
status. And expand the definition of related party to include related parties of the bank’s directors and other
parties and transactions, as defined in footnotes to CP20.
Principle 26. Internal Control and Audit
The RBNZ should be conscious that independent verification of internal controls is a critical area to ensure
the soundness of individual institutions, and an indispensable means to exercise effective regulatory
discipline.
Principle 27. Financial Reporting and External Audit
While respecting the difference in responsibilities between external auditors and the RBNZ, the RBNZ should
engage them in a focused and effective dialogue to discuss valuation practices, as well as other areas of
prudential concern delegated to external auditors.
Authorities’ Response to the Assessment
The New Zealand authorities (the FMA, MBIE, RBNZ, and Treasury) wish to thank the IMF and
the banking assessors for their thorough assessment of New Zealand’s compliance with the
Basel Core Principles for Effective Banking Supervision. The authorities welcome the opportunity
to comment on the IMF’s Detailed Assessment Report (DAR).
The New Zealand authorities strongly support the FSAP as a means of promoting and
improving both the quality of financial sector regulation and the outcomes that this
regulation aims to achieve.
By way of context, the New Zealand banking system is highly concentrated and largely
foreign owned, with subsidiaries of the four large Australian banks accounting for a large
share of total banking assets. New Zealand is not a member of either the BCBS or the Financial
Stability Board (FSB). Nevertheless, New Zealand looks to adopt the recommendations of
international standard setting bodies when they are appropriate for New Zealand circumstances,
and these are often customized to deliver outcomes that best meet New Zealand’s needs.
The last New Zealand FSAP was conducted during 2003–2004. Since that time there have been
significant developments in the New Zealand regulatory landscape, including to banking sector
regulation and supervision. Some developments can be traced to the recommendations of the
previous FSAP, while others are tied to separate factors such as the global financial crisis.
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The New Zealand financial system weathered the crisis comparatively well – the banking
system did not experience a major deterioration in asset quality and nonperforming loans
remained low by international standards. The crisis did, however, highlight the reliance of the
New Zealand banking system on wholesale market funding. In response the Reserve Bank
introduced a new prudential liquidity policy in 2010 designed to ensure banks self-insure against
short-term funding pressures.
The Reserve Bank was quick to adopt the new global solvency standard for banks embodied
in Basel III, implementing the new higher minimum capital requirements at the start of 2013.
The crisis also prompted the accelerated development and subsequent implementation of a policy
designed to minimize the damage to the financial system from the failure of a large bank. This
policy, OBR, was introduced in 2012.
Complementing these policy developments, the Reserve Bank has also stepped up its
supervisory intensity since the crisis, reflected in the degree of engagement with banks, and
improvements in its supervisory analysis and data. The DAR acknowledges these significant
improvements in the Reserve Bank’s ‘regulatory’ pillar.
The DAR notes that the Reserve Bank’s approach to banking sector regulation rests not only
on a ‘regulatory pillar’ (formal enforceable rules and requirements) but also on ensuring that
bank directors and senior managers have the right incentives to manage their bank’s risks
(self-discipline), and that market participants have the appropriate information, incentives
and mechanisms to help influence the behaviour of banks in a way that also contributes to a
sound and efficient banking sector (market discipline).
The New Zealand authorities recognize that, despite a rebalancing towards more regulation
post-crisis, New Zealand’s banking regime remains somewhat unusual given the emphasis
that the Reserve Bank places on self-discipline and market discipline, and its relatively lowintensity supervisory approach.
The findings and recommendations contained in the DAR provide an opportunity for the
Reserve Bank to reflect on its current model and the extent to which, together, the ‘three
pillars’ might better contribute to a sound and efficient New Zealand banking system. The
recommendations imply extensions or adjustments to the Reserve Bank’s current model in the
following areas:

There should be common benchmarks and enforceable requirements against which banks
should measure, monitor and manage all the key risks facing their business in order to facilitate
corrective or enforcement action.

In conjunction, there should be a greater willingness to take supervisory or enforcement actions,
not just in response to formal regulatory breaches, but also on a more preventive basis (based
on a greater use of supervisory standards) to mitigate ‘imprudent behaviour’ that could lead to
more serious consequences.
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
Supervisory and disclosure information should be subject to more verification either by the
Reserve Bank or by external experts.

Market discipline has more limitations than the Reserve Bank’s approach suggests.

There should be a reassessment of the resources needed to adequately fulfil the Reserve Bank’s
responsibilities for banking supervision.
The Reserve Bank, in conjunction with other relevant New Zealand authorities, will consider
the recommendations in these and other areas identified in the DAR. It is too early to provide a
definitive response, but the Reserve Bank believes that those recommendations tied more explicitly
to improving self-discipline and market discipline merit particular attention. As an example the
Reserve Bank recently initiated a thematic review of the attestation framework, partly in response to
the IMF’s findings.
The DAR also acknowledges the importance of trans-Tasman cooperation given the
significant presence of Australian-owned banks in New Zealand. The New Zealand authorities
believe that the current home-host arrangements established with Australian authorities are very
sound and consistent with international best practice. Nevertheless, the authorities will continue to
develop and deepen the work with their Australian counterparts on areas of common interest.
The IMF assessment places considerable importance on the principle of ensuring the
continued independence of the Reserve Bank in the performance of its regulatory and
supervisory functions. While the DAR does not point to any examples of government interference,
New Zealand authorities will work together to consider the recommendations in this area and to
ensure that an appropriate degree of separation is maintained between the Reserve Bank and the
executive branch of government.
In conclusion, the New Zealand authorities found the FSAP a valuable process with many
potentially useful insights for the Reserve Bank’s prudential framework. The New Zealand
authorities will be considering the recommendations systematically over the coming months with a
view to ensuring that New Zealand’s approach to banking sector regulation continues to be costeffective while promoting the soundness and efficiency of the financial system.
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Appendix VI. Report on the Observance of Standards and Codes:
Insurance Core Principles—Summary Assessment1
Introduction
This assessment of insurance regulation and supervision in New Zealand was carried out as
part of the 2016 New Zealand FSAP. The assessment is benchmarked against the ICPs issued by
the International Association of Insurance Supervisors (IAIS) in October 2011, as revised in
November 2015.
The assessment excludes personal accident and earthquake schemes provided by government
entities. There are two bodies (with the status of “Crown agents” under the New Zealand Crown
Entities Act 2004) responsible for damages due to natural disasters and accidental injuries:
a.
The EQC, established under the Earthquake Commission Act 1993, provides natural disaster
coverage in relation to residential property and associated land up to specified limits.
b.
The ACC, established under the Accident Compensation Act 1972, provides no-fault personal
injury coverage for all New Zealand residents and visitors.
Both have been excluded from the scope of this assessment due to the nature of their functions
which is similar to social insurance schemes. These schemes are, however, included in the market
statistics in this report because they form an integral part of financial protection in New Zealand and
excluding them would understate overall available insurance and hamper international comparison.
Information and Methodology Used for Assessment
The assessment is based solely on the laws, regulations and other supervisory requirements
and practices that are in place at the time of the assessment in August 2016. While this
assessment does not reflect new and ongoing regulatory and supervisory initiatives, key proposals
for reforms are summarized by way of additional comments. The authorities provided a
comprehensive self-assessment, supported by examples of actual supervisory practices and
assessments, greatly enhancing the robustness of the assessment.
Overview of the Institutional Setting and Market Structure
The RBNZ adopts a principles-based, low-intensity supervisory philosophy. The RBNZ
commenced prudential supervision of the insurance sector in 2010 after the passage of the IPSA.
The supervisory emphasis is on the board’s accountability and the consumer’s responsibility in
selecting financial products and providers. Consistent with this philosophy and with its powers under
1
The assessment team included Mimi Ho and Ian Tower (external experts). The assessment was conducted from
August 16 to September 7, 2016.
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IPSA, the RBNZ has issued standards and guidelines for insurers, and has consciously refrained from
conducting in-depth on-site supervision, with a view to encourage self-discipline on the part of
insurers’ boards and management.
The responsibility for insurance market conduct supervision lies with the FMA. The FMA’s
oversight of insurers and insurance intermediaries is embedded in its general oversight of financial
advisers and financial products. Established in 2011, the FMA took over the functions of the former
Securities Commission of New Zealand and the Government Actuary.
New sales of life insurance are for protection only, without savings elements. Most life insurers
have established fund management subsidiaries and now provide insurance and fund management
out of separate entities. New life business is mostly confined to pure protection. KiwiSaver, a tax
efficient (non-insurance) work-based retirement savings product with some early withdrawal
flexibility, has attracted savings that might have otherwise gone into insurance.
There is no compulsory class of non-life insurance because of the role of the ACC. The ACC
provides universal no-fault protection against work and non-work related injuries. Consequently,
there is no compulsory insurance often seen in other markets, such as motor and workers’
compensation insurance. Individuals may take up additional private insurance to supplement the
ACC’s coverage. Premiums/levies collected by ACC and EQC account for 45 percent of total non-life
premiums.
The industry is highly concentrated. The total number of licensed insurers was 96 at the end of
2015, 35 of which are branches of foreign insurers. The industry is also highly concentrated in a few
insurers. Australian-owned operations in New Zealand (branches and subsidiaries combined)
represent 66 percent of market by premium and 75 percent by assets. The RBNZ has extensive
cooperative arrangements with the Australian authorities as the home supervisor.
The non-life insurance sector is exposed to earthquake and other natural disasters. New
Zealand is highly vulnerable to natural catastrophes: earthquake, volcanic eruption, and the resulting
landslide, tsunami, fire, flood, etc. The Canterbury earthquakes in 2010–2011 resulted in the
government bail-out of one insurer and the failure of another. Most of the Canterbury claims fell to
the private insurance market, as the EQC only covers residential properties up to limits.
Preconditions for Effective Insurance Supervision
There is a well-established and transparent macroeconomic and financial sector policy
framework. The primary responsibilities of the RBNZ include macroprudential policy; the oversight
and designation of payments systems; and monetary policy. The Treasury is responsible for
execution of the government’s economic policy. The FMA is responsible for oversight of organized
financial markets and conduct of business across the financial sector.
There is a well-developed public infrastructure. The laws on business organisation, insolvency,
property registration and transfer and consumer protection are well-established. Property and
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contract law is well developed, through statute or common law, and is enforced by the courts. The
judiciary is independent and of high standing and there is a developed legal profession. The
accounting and auditing frameworks follow international standards and there is a well-developed
profession. Auditors and audit work are subject to oversight and disciplinary processes. The New
Zealand Society of Actuaries is an independent professional body.
There are extensive general corporate governance standards in laws, codes, and guidelines.
The Companies Act 1993 sets outs the role and responsibility of the board, the rights of
shareholders (including in relation to the appointment and removal of directors) and the conduct of
general meetings. It includes disclosure requirements in relation to staff remuneration. The FMC Act
sets out governance obligations that apply to issuers of debt securities, managers of managed
investment schemes and their supervisors. The FMA has also published corporate governance
principles and guidelines that are addressed to a wide set of entities. The New Zealand Exchange
has issued corporate governance principles applicable to its listed companies.
There are disclosure requirements associated with company law and regulation and listing on
the stock exchange. There is a general requirement for audited financial statements to be
produced and made available to the public via the Companies Office register. Entities that do not
have public accountability (and smaller for-profit public sector entities) may choose to be subject to
reduced requirements. Listed companies are subject to the stock exchange’s disclosure
requirements.
In line with the general regulatory philosophy, there is no insurance policyholder protection
scheme that would provide a safety net in the event of insurer failure. The policy framework
emphasizes the need for consumers to make informed decisions, the avoidance of moral hazard,
and reducing public perception of any implicit government guarantee. Regulation places particular
emphasis on the importance of appropriate disclosure. However, insurers and intermediaries are
required to be members of a dispute resolution scheme, except where they are undertaking only
wholesale business.
There are deep and liquid financial markets, although they are relatively small by
international standards, and limited (for debt issues) to shorter maturities. New Zealand
insurers invest largely in NZD-denominated assets and mostly in debt securities. Equity and bond
markets are small by international comparison and the range of instruments limited. Government
and financial institutions dominate debt issuance. Government securities are issued only out to ten
years and the resulting lack of long-term risk-free benchmark rates constrains longer term private
issuance. There are limited inflation-indexed products which would help insurers to manage inflation
risks. There are no restrictions on foreign investment. Given the significance of foreign-owned
insurers to the New Zealand market, many insurers make use of their head office or parent company
to source and manage foreign investments.
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Main Findings
Table 1. New Zealand—Summary Compliance with the Insurance Core Principles
1. Objectives, Powers, and Responsibilities of the Supervisor
Legislative changes in recent years have strengthened the regulatory framework, establishing a “twin peaks”
approach with the RBNZ responsible for prudential regulation and the FMA for conduct in financial markets,
including that of insurers and insurance intermediaries. The objectives of the regulators are clearly set out in
law and support the protection of insurance policyholders, even if the statutory objectives of the RBNZ focus
on the soundness of the insurance sector, including promoting public confidence. Both the RBNZ and FMA
have extensive powers, but these do not extend, with important exceptions in RBNZ’s case, to establishing
rules themselves or to imposing administrative sanctions.
2. Supervisor
The governance structure and decision-making processes are clearly defined for both the RBNZ and FMA.
There are transparent arrangements for the appointment and removal of the RBNZ Governor and members
of the RBNZ and FMA boards, although reasons for any dismissal do not have to be published (they are likely
to be made public in practice). There is scope for publication of more information on the insurance sector in
aggregate.
The relationship between the RBNZ and government provides for supervisory decisions to be generally taken
by the RBNZ, except the appointment of a statutory manager, reflecting the severity of this form of
intervention. While the RBNZ’s key relationship is with the MoF, it also works with and keeps the Treasury
informed on individual insurers. As an independent Crown Entity, the FMA is protected from government
intervention in supervisory decisions. Its responsibilities and those of the MBIE and the Minister of
Commerce regarding regulatory policy are clearly defined. The adequacy of resources at both the RBNZ and
FMA needs to be reconsidered.
3. Information Exchange and Confidentiality Requirements
The RBNZ has legal power to obtain information and share it with other authorities with similar functions.
Domestically, there is a formal avenue for relevant authorities to regularly share information. Internationally,
the RBNZ has signed cooperation MoUs with its Australian and U.K. counterparts, and is a signatory to the
IAIS MMoU. A formal agreement is not a precondition for information sharing.
4. Licensing
The licensing requirements set out in IPSA are clear and comprehensive, as is the RBNZ’s guidance on its
interpretation of the legislation, which draws on its licensing of insurers when IPSA took effect. A number of
applications were rejected. The RBNZ’s policy is to be accommodating towards overseas insurers and in the
case of branches, the RBNZ states that it has regard to the benefits of an overseas insurer’s presence in the
New Zealand market when assessing the home country’s regulatory regime. A relatively wide range of
jurisdictions are treated as having regulatory arrangements equivalent to (or at least as satisfactory as) those
of New Zealand.
5. Suitability of Persons
The legislation has established a clear framework for suitability, under which insurers themselves are held
responsible for developing and implementing a policy on fit-and-proper requirements and certifying to the
RBNZ that new appointments comply with the policy. The RBNZ does not exercise prior approval for key
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Table 1. New Zealand—Summary Compliance with the Insurance Core Principles (continued)
individuals for particular roles. The scope of the requirements does not extend, however, beyond directors,
the CEO, CFO, and the Appointed Actuary. There is extensive scrutiny of significant shareholders at the
licensing stage and, in respect of controlling shareholders, in case of changes in control, but there are no
ongoing requirements regarding their suitability.
6. Changes in Control and Portfolio Transfers
The legislation requires notification to the RBNZ of changes in control and proposed portfolio transfers. The
threshold for the definition of control in IPSA is high in relation to international practices, which define
control more broadly or focus approval on significant owners rather than just majority shareholders. Its
approach exposes the RBNZ to the risk that potentially detrimental changes in significant owners occur
without its knowledge, depriving it of the ability to take any required action. The RBNZ has received a large
number of applications for approval of transfers under IPSA. Although policyholder protection is not an
objective under IPSA, the RBNZ must base its decisions on an assessment of the impact on policyholders.
7. Corporate Governance
The current framework is less comprehensive and binding than the ICP requires. The RBNZ’s 2014 thematic
review of risk governance (a subset of overall corporate governance) underscores the importance for the
RBNZ to:
 Provide clear and comprehensive articulation of its expectations with regard to governance to ensure
consistent understanding and improve quality of governance.
 Design an ongoing monitoring strategy to give the RBNZ the necessary comfort that ongoing selfdiscipline is effective.
8. Risk Management and Internal Controls
The legal requirements on risk management and internal controls are less prescriptive and legally binding
than the ICP requires. Other than the Appointed Actuary, there are no explicit binding requirements for
insurers to have risk management, compliance, and internal audit functions. There is also a lack of a clear
indication of the insurer’s responsibility for outsourced functions.
9. Supervisory Review and Reporting
The RBNZ has full supervisory powers and a developing set of tools, the application of which takes a
structured approach to assessing risk and allocating resources. There is scope for publishing more details of
the approach. The supervisory framework is still evolving. Baseline monitoring appears thorough and
supervisors have been leveraging limited resources to carry out more in depth risk assessment through
thematic work.
However, routine supervisory engagement with insurers, even the largest, is focused mainly on issues arising
from reporting and regulatory transactions and the annual senior management meeting. The RBNZ does not
routinely carry out qualitative assessment based on in-depth interaction, for example, of governance, for risk
assessment or remediation purposes. Supervisory resources are accordingly limited, compromising the
RBNZ’s ability to identify and respond to risk. The RBNZ’s full set of reporting requirements has been
introduced only recently and the requirements lack granularity.
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Table 1. New Zealand—Summary Compliance with the Insurance Core Principles (continued)
10. Preventive and Corrective Measures
The legislative framework and RBNZ’s internal procedures provide for the RBNZ to take corrective action and
to escalate from supervisory action through to imposing enforceable requirements, including directions,
according to the severity of the issue. There is no requirement for publication of corrective actions. Not all of
the powers outlined in IPSA have yet been used. In some cases, the RBNZ has deliberately not intervened as
strongly as it could have, reflecting the challenges faced by many insurers in transitioning to the new regime.
However, the RBNZ has imposed significant corrective measures on some insurers.
11. Enforcement
The legislation clearly sets out a range of enforcement tools and sanctions, to be used against individuals as
well as insurers, and the circumstances under which they may be applied. The RBNZ has implemented
internal procedures to ensure that actual or potential breaches of any requirements are recorded and
managed through to resolution. The RBNZ’s powers remain largely untested. Financial and other penalties
may be sought from the court, including against individuals.
12. Winding-up and Exit from the Market
The RBNZ has a range of options in dealing with voluntary and involuntary liquidation of insurers. It chooses
which option to use based on circumstances. While policyholder protection is a principle of IPSA, the only
specific protective measure is the priority of claim for life insurance policyholders in the statutory fund. There
is no policyholder protection scheme currently and there is no intention of establishing one. The largest life
insurer by assets is an Australian branch, to which the home jurisdiction’s solvency standard and statutory
fund requirements apply; it is not required to hold assets in New Zealand; and its winding-up process along
with New Zealand policyholders’ rights are not within the RBNZ’s control.
13. Reinsurance and Other Forms of Risk Transfer
The RBNZ recognizes the importance of reinsurance particularly in the light of New Zealand’s exposure to
natural disasters. However, the responsibility for ensuring the appropriateness of reinsurance arrangements
is largely left to the Appointed Actuary.
14. Valuation
The valuation of assets and liabilities for solvency purposes is broadly in line with the ICP standard. The
rating is due to the lack of guidance on the choice of discount rates for long maturity businesses.
15. Investment
Insurers are generally permitted to invest freely provided they maintain adequate capital in respect of the
associated risks. Supervisory influence on investments is indirect through capital charges. However, this
principles-based approach would normally be accompanied by monitoring by the supervisor not only of the
actuarial analysis but of the detailed breakdown of actual investments and changes over time that may
indicate a developing risk appetite. The RBNZ is not collecting the information on investments they would
need to carry out this monitoring
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Table 1. New Zealand—Summary Compliance with the Insurance Core Principles (continued)
16. Enterprise Risk Management for Solvency Purposes
The key gaps are:
 There should be a rigorous process of risk identification and measurement (ICP 16.1) involving all
aspects of the operations.
 The insurer’s risk management policy should include a description of the insurer's policies towards
risk retention, risk management strategies (reinsurance, the use of derivatives), and address the
relationship between pricing, product development and investment management. (ICP 16.3)

Asset-liability management. (ICP 16.5)
 The Enterprise Risk Management (ERM) framework should include mechanisms to incorporate new
risks and new information on a regular basis and incorporate a feedback loop (ICP 16.9 and 16.10).
While not as extensive as the Own Risk and Solvency Assessment, the Financial Condition Report (FCR) is
objectively prepared and serves a particularly useful function
17. Capital Adequacy
The solvency standard takes into account the risk profile of the insurers. While it does not address
dependencies and interrelationships between risk categories, it is a practical methodology. However, the
single solvency control level makes it difficult for the RBNZ to make early intervention.
18. Intermediaries
There is a generally well-developed framework applying to insurance intermediaries which sell more complex
products and companies that provide advice on a wide range of financial products (Authorised Financial
Advisers and Qualifying Financial Entities). The FMA carries out licensing assessments and supervision of these
intermediaries, and publishes extensive guidance. There is an effective enforcement process and strong
protection is applied to client money due to insurance policyholders. However, the regime applying to those
who choose only to sell simpler products, even to retail customers, is limited. Simpler products as defined
cover all types of insurance except investment-linked policies (not sold in practice). The FMA and government
are already addressing these issues in a government-led review of the legislation on financial advice.
19. Conduct of Business
The conduct of business regime is particularly focused on financial advice. Other aspects of insurance conduct
of business are less well covered and in many cases not covered at all in regulation or covered only in FMA
guidance. A developing framework of self-regulation in general insurance and established dispute resolution
services help reduce risks to customers, but do not substitute for regulatory requirements and effective
oversight.
The FMA is increasing its overall resources, publishing extensive information on its expectations and
undertaking thematic work. The conduct risks in insurance may be lower than in many other developed
markets owing to the product range. Nonetheless, aspects of the insurer’s relationship with customers where
there may be misconduct, including the handling of claims and complaints, and advice on (nominally) simpler
products provided by registered financial advisers (RFAs), are effectively unregulated. Risk-based supervisory
oversight, including proactive identification and management of risks, is largely limited to financial advice.
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Table 1. New Zealand—Summary Compliance with the Insurance Core Principles (continued)
20. Public Disclosure
The disclosure requirements are based on accounting standards, supplemented by mandatory disclosure of
financial strength: a credit rating by approved credit rating agencies, actual solvency capital amount, the
minimum amount required, and the resultant solvency margin and solvency ratio. Comparison across insurers
is made difficult by the fact that: (a) accounting standards allow some management discretion on the details
to be disclosed; (b) branches are allowed to present solvency information using home jurisdiction
methodologies; and (c) additional solvency margins are required of some insurers. Compared to the ICP,
financial statement disclosure requirements are also lacking in the areas of investments, asset liability
management, description of risk concentration, and interaction between capital adequacy and risk.
21. Countering Fraud in Insurance
Fraud related to insurance is captured by general criminal law on theft, misrepresentation etc. and the criminal
and regulatory authorities cooperate to identify cases of fraud and have brought successful prosecutions on
insurance-related fraud. The supervisory bodies are part of a network of official agencies cooperating in this
area (although on a less formal basis than for AML/CFT work) and spreading wider awareness of fraud issues.
Fraud is covered in RBNZ guidelines (in connection with risk management), and fraud prevention and controls
are in principle covered in supervisory work within the RBNZ’s risk-based approach. Other priorities have led
to limited specific focus to date on fraud issues.
22. Anti-Money Laundering and Combating the Financing of Terrorism
Both the RBNZ and the FMA are designated supervisors under AML/CFT legislation. The RBNZ monitors life
insurers, using reports and analysis of vulnerabilities to AML/CFT risk. It conducts desk-based reviews and a
small number of on-site inspections, taking a risk-based approach. The intensity of supervision is lower than
for banks, reflecting the risk assessment. The RBNZ benefits from a specialist unit that has built expertise and
relationships with other authorities, including in Australia. The FMA collects information, carries out reviews
and publishes findings, in relation to the reporting entities within the wide scope of its regulation, although
there is no specific work program for insurance intermediaries.
23. Group-wide Supervision
Supervision of insurance is new and the extent of group-wide supervision is limited. While the RBNZ has
obtained information of all legal entities in a group at the licensing stage (2013), its knowledge will become
outdated over time in the absence of a regular reporting and monitoring of group membership and group
structures, except where there is a change of control (see ICP 5). The RBNZ has not established relationships
with overseas supervisors other than the Australian Prudential Regulation Authority (APRA) mainly due to
resource constraints.
24. Macroprudential Surveillance and Insurance Supervision
Although the RBNZ’s objectives focus on the sector, its supervision is focused to a large extent on individual
insurers. Its scope to take a system-side view has been hampered to date by limited availability of detailed
comparative information from regulatory reporting. However, a more macroprudential approach was taken in
response to the Canterbury earthquakes. With increased data availability from late 2016, the RBNZ will be
better able to identify emerging market-wide risks, assess for potential systemic significance and publish
more aggregate information on the sector. While the development of macroprudential supervision will also
contribute to the effectiveness of the supervision of individual insurers, it will not substitute for that activity
and is therefore likely to require additional supervisory resources.
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Table 1. New Zealand—Summary Compliance with the Insurance Core Principles (concluded)
25. Supervisory Cooperation and Coordination
NZ has an open and cooperative attitude towards supervisory cooperation, although its attitude is more
reactive than proactive. Domestically, there are arrangements to discuss and share information among
relevant authorities. Internationally, the RBNZ has well established procedures to cooperate with Australia
whose insurers represent 66 percent of the market. Despite the large foreign participation in its market, the
RBNZ’s active participation in supervisory colleges is mainly limited to one.
26. Cross-border Cooperation and Coordination on Crisis Management
The largest non-life insurer in New Zealand (which is locally incorporated) has a 44 percent market share.
There would be a serious impact on the market should it be in distress, similar to the issues caused by the
need for the government to acquire AMI as a result of Canterbury earthquake losses. In addition, New
Zealand policyholders of foreign branches may be vulnerable to possible overseas policyholder preference.
Effective cross-border crisis management is key to New Zealand policyholder protection and financial stability.
The RBNZ is only in the early scoping phase in developing its policy relating to managing insurers in crisis.
Recommended Actions
Table 2. Recommendations to Improve Observance of the ICPs
Insurance Core Principle
1.
Objectives, Powers, and
Responsibilities of the
Supervisor
Recommendations
The authorities should make explicit in the RBNZ’s purposes (or in the
principles which it must take into account) the objective of policyholder
protection, consistent with existing distress management and other
provisions in the legislation and the way in which the RBNZ approaches
regulation and supervision in practice.
The powers of the RBNZ should be extended to issue binding standards on
the full range of prudential issues (including governance and risk
management), building on its existing powers in relation to solvency and fitand-proper requirements; IPSA should be amended to apply solvency
standards directly rather than via conditions of license.
The powers of the RBNZ and FMA should be extended to enable them to
impose administrative sanctions, including fines, subject to appropriate
procedural requirements.
The legislation should be amended, when opportunity arises, to enable the
RBNZ to impose a condition of license or change an existing condition
without having to consult the insurer itself, in cases where immediate action
is required.
2.
Supervisor
The RBNZ and Treasury should review their 2012 MoU with a view to
clarifying and constraining the circumstances in which information on
individual insurer supervisory issues are reported by the RBNZ to the
Treasury, limiting the exchange of information to clearly-defined cases of
Treasury need and avoiding a risk of increased government involvement
supervisory work; any review of the MoU could also clarify
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Table 2. Recommendations to Improve Observance of the ICPs (continued)
the limits of the Treasury’s involvement in the development of insurance
regulation.
The RBNZ and FMA should review their resource needs, in light of
experience of their new regimes to date and taking into account
recommendations for enhancements to their current approaches in this
assessment.
The RBNZ and FMA should jointly review the adequacy of current and
proposed new published reporting on aggregate data and trends in the
insurance sector, working with industry bodies as appropriate, to ensure the
availability of appropriate information, for use by policy-makers and private
stakeholders.
3.
Information Exchange
and Confidentiality
Requirements
None
4.
Licensing
The RBNZ should review the approach to licensing of overseas insurers to
ensure an appropriate balance between attracting foreign involvement and
applying a rigorous test of the equivalence (and readiness to cooperate in
practice) of foreign jurisdictions.
The RBNZ should review the requirement in IPSA section 19(4) on the RBNZ
to treat home country regulation and supervision as appropriate, if the
jurisdiction is prescribed in the regulations and/or the list of jurisdictions in
the current regulation.
The RBNZ should review, with other authorities and the industry, the extent
of and risks relating to insurance cover provided to consumers from abroad
and whether any change is required in the scope of the licensing
requirement or any other changes in regulation.
The RBNZ should develop a policy for the use of IPSA powers to restrict the
amount or share of total business which insurers may write outside New
Zealand.
5.
Suitability of Persons
The legislation and/or the RBNZ standards should be amended in due
course to:
- extend the scope of the individuals covered by the fit-and-proper
framework, ideally in conjunction with the introduction of requirements for
insurers to create a full range of control functions (see ICP 8).
- establish an ongoing requirement on the suitability of significant owners,
adopting an appropriate definition that would capture those with interests
below 50 percent as well as shareholder controllers themselves, ideally
aligned with the approach to approval of changes in control (ICP 6).
- create an explicit expectation that insurers notify the RBNZ of significant
issues affecting the suitability of key persons as and when they occur, in
between the reassessments that are required every three years.
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Table 2. Recommendations to Improve Observance of the ICPs (continued)
The RBNZ should build into their supervision framework increased oversight
of the quality and completeness of insurers’ fit-and-proper policies and their
implementation in practice.
6.
Changes in Control and
Portfolio Transfers
IPSA should be amended to extend the requirements on changes in control
to require notification of shareholder changes which involve a lower level of
ownership (shares or voting rights) or which otherwise carry with them the
right to appoint one or more directors;
An approval process (rather than a reevaluation of licensing requirements)
should be considered, as well as powers to disenfranchise unsuitable
shareholders, if consistent with the general New Zealand law framework.
The RBNZ should develop a risk-based approach to carrying out
assessments, enabling it to undertake, for example, a reduced level of work
where a home supervisor is involved, consistent with its general approach to
overseas insurers.
7.
Corporate Governance
The RBNZ should issue a more comprehensive standard on corporate
governance. It could consider using the FMA Corporate Governance
Handbook as a baseline, and strengthen it to a higher standard in areas
where it deems appropriate.
The RBNZ could consider adopting a two-tiered approach, by issuing legally
binding regulations (see ICP 2) for key governance requirements (such as
board composition and accountability), and non-binding guidelines for
others (such as establishing board committees).
The RBNZ should design an ongoing monitoring strategy to give the
necessary comfort of ongoing effective self-discipline. An in-depth
understanding of each insurer’s governance structure and its effectiveness
should be incorporated into the RBNZ’s ongoing supervision, in addition to
periodic thematic reviews on a selective basis.
8.
Risk Management and
Internal Controls
The RBNZ should require the establishment of dedicated risk management,
compliance and internal audit functions for insurers. To reduce the burden
on smaller insurers, some of these functions may be outsourced.
The RBNZ should issue an outsourcing standard, incorporating its
consideration and assessment methodology used at the licensing stage, and
setting out the insurer’s oversight responsibility and accountability for
outsourced functions.
The RBNZ should incorporate assessment of the effectiveness of the
insurer’s risk management framework into its ongoing supervisory process.
To ensure consistency in compliance, RBNZ should also strengthen the
enforceability of its risk management requirements (see ICP 1 on its powers
to do so).
9.
Supervisory Review and
Reporting
The RBNZ should complete the implementation of the current supervisory
framework, in particular the planned elaboration of supervisory strategies
and action plans; and use these to communicate, in writing and at
supervisory meetings, their assessment of individual insurers and the key
actions which they expect management to take; they could also
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Table 2. Recommendations to Improve Observance of the ICPs (continued)
consider disclosing to insurers appropriate parts of the risk assessment itself.
The RBNZ should review its approach to the use of supervisory tools with a
view to identifying where they would most benefit from increased on-site
supervisory work; and then start carrying out such work in practice.
The RBNZ should develop its reporting requirements over time to capture
more information on insurers’ exposures, including their investments and
off-balance sheet business.
The RBNZ should review the increased supervisory resources needed to
effectively implement the supervisory approach, with the recommended
enhancements.
10. Preventive and Corrective
Measures
The RBNZ should develop an internal policy and approach to action to be
taken when an insurer’s solvency, while remaining above the minimum
solvency requirement, is at a level (or is changing sufficiently fast) such that
the risk of a breach of the minimum starts to become a risk. The objective
would be to ensure that appropriate preventative action is taken at an early
stage.
The RBNZ should consider whether its approach would benefit from a
presumption in the legislation that certain corrective action requirements be
published, unless there are reasons related to the confidentiality of the issue
not to do so.
11. Enforcement
In the context its review of IPSA and the development of its enforcement
strategy, the RBNZ should assess:
– whether to seek additional enforcement powers such as infringement
notices, administrative fines or enforceable undertakings.
– the merits and appropriateness in the wider New Zealand context of
powers to restrict or suspend dividends or other payments to shareholders
and to mandate portfolio transfers, to the extent that these are not clearly
covered by the power of direction.
The RBNZ should review the significant limitation on the power to require
licensed insurers to cease to enter into new business in section 144(2) of
IPSA.
12. Winding-up and Exit from
the Market
The RBNZ should explore the best way to achieve IPSA’s policyholder
protection principle. Options include one or a combination of the following:
–
Extend the statutory fund requirement to non-life insurance.
– Remove the exemption from statutory life fund requirement granted to
Australian branches.
– Provide a general priority of claim for all policyholders in IPSA in the
absence of a statutory fund.
13. Reinsurance and Other
Forms of Risk Transfer
86
The prudent management guidelines should be amended to include timely
finalization of reinsurance contracts to reduce risks and potential disputes.
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Table 2. Recommendations to Improve Observance of the ICPs (continued)
The RBNZ should require insurers to have a board-approved reinsurance
strategy as part of its risk and capital management strategy.
A reinsurance statement should be included in the FCR from both life and
non-life insurers, in light of the importance of reinsurance in managing
catastrophe risk for non-life.
The RBNZ should review the reinsurance statements to form its own
judgement on whether the reinsurance program is compatible with the
insurer’s reinsurance strategy.
14. Valuation
The RBNZ should work with the NZSA to establish a methodology for
selecting appropriate discount rates. For example, the Treasury publishes a
table of discount rates for 50 years applicable to all Government reporting
entities submitting valuations to Treasury for valuing insurance claims
liabilities under PBE IFRS 4 Insurance Contracts. This table or a variation
thereof may be suitable for valuing private insurance contracts as well.
15. Investment
The RBNZ should collect a more granular breakdown of assets to facilitate
an understanding of an insurer’s investment exposures, including in higher
risk or innovative investment instruments.
The RBNZ should provide greater clarity on its expectations regarding
investment governance (for example, the board’s accountability over
investment strategy and investment process).
16. Enterprise Risk
Management for
Solvency Purposes
The RBNZ should issue comprehensive ERM guidelines to promote proper
risk management process on an enterprise-wide basis.
17. Capital Adequacy
Having two solvency control levels as described in ICPs 17.3 and 17.4 would
enable the RBNZ to make less intrusive early intervention before the
financial condition of the insurer deteriorates to a critical level.
The RBNZ should require insurers to conduct own risk and solvency
assessments to identify the relationship between risk management and the
level and quality of financial resources needed and available on a groupwide basis. This could be achieved through an enhancement to the Financial
Condition Report.
For consistency and efficiency, the RBNZ should develop internal guidance
on the appropriate actions for each solvency control level, in particular, the
strongest actions to be taken when the insurer fails to maintain the lower
solvency control level.
The New Zealand solvency standard should apply to all statutory funds to
improve comparability across branches and subsidiaries.
The regulatory capital requirements should be established in an open and
transparent process. The basis and circumstances for using licensing
conditions to impose additional solvency margin requirements should be
made more transparent. The RBNZ has also recognized that a number of
areas in the solvency standards could be made clearer.
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Table 2. Recommendations to Improve Observance of the ICPs (continued)
18. Intermediaries
The government should revise the legislation (as already planned) to
strengthen or remove the registration-only regime currently available to
intermediaries, introducing minimum requirements for competence and
disclosure that apply to all advisers, including insurance brokers.
The government should consider a proportionate regulatory regime for
insurance intermediation not currently captured by the legislation, including
pure sales and intermediation where ancillary to another line of business.
The FMA should assess the need for insurance-specific requirements on
intermediation as well as an insurance-specific work program, taking into
account its overall assessment of risks in financial markets. In that context,
they should assess their need, in the medium and longer terms, for more
insurance-specific skills and expertise.
19. Conduct of Business
The government and the FMA should review the scope of conduct
regulation for insurance, considering all aspects of the insurance product life
cycle, and develop a regulatory framework to include:
–
Minimum standards on all (or all higher risk) issues.
– A licensing framework that would provide for screening of new entrants
and clear identification of the insurers and intermediaries to whom the
regulation framework will apply.
– A minimum level of risk-based supervisory oversight applying to the
licensed population, avoiding duplication with the existing approach applied
to financial advisers.
The FMA should review its requirements for increased insurance-specific
expertise and overall insurance resources.
20. Public Disclosure
Strengthen disclosure in the following areas:
– Risk management (asset-liability management practices, sensitivity of
regulatory capital and provisions for mismatching).
– Financial position (capital management policy, capital adequacy
information).
–
Investment (objectives, policies and procedures).
Consider ways to improve the solvency disclosure information to facilitate
comparability across insurers and between subsidiaries and branches (see
ICP 17).
Enhance the quality of governance disclosure and its enforceability.
21. Countering Fraud in
Insurance
In order to ensure a minimum coverage of fraud in its supervisory work and
to support insurance company focus on fraud risks, the RBNZ should:
– as part of its planning for the development of its supervisory work and
resource planning, schedule thematic or firm-specific work on fraud controls;
and
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Table 2. Recommendations to Improve Observance of the ICPs (concluded)
– in due course include guidance to supervisors on evaluation of fraud
risks in the iPRESS framework.
22. Anti-Money Laundering
and Combating the
Financing of Terrorism
None
23. Group-wide Supervision
The RBNZ should develop a strategy on group-wide supervision reflecting its
supervisory philosophy and available resources. It should take into account
the significance of its domestic insurers in foreign markets (having a
negative impact on New Zealand’s reputation).
The RBNZ should review its approach to licensing insurers with a substantial
amount of business undertaken outside New Zealand, including whether
and when to use its powers under IPSA to set requirements on minimum
levels of domestic business.
24. Macroprudential
Surveillance and
Insurance Supervision
The RBNZ should increase the market wide analysis of the sector from 2017,
defining regular outputs (for internal use) such as standard reports on
market trends, interconnectedness and other potential sources of systemic
risk, as well as templates for the publication of aggregate information (it
already has plans for consultation in this area).
While in the medium term, stress-testing exercises should be considered, the
RBNZ could undertake cross-company analysis of information in Financial
Condition Reports, which could be supplemented by requiring increased
reporting of sensitivity analysis.
25. Supervisory Cooperation
and Coordination
The RBNZ should establish a process to more proactively evaluate the need
to identify a group-wide supervisor, and the need to establish supervisory
colleges for cross-border insurance groups. Regardless of the outcome, the
process will instill the discipline of ensuring clarity of supervisory
responsibility. The RBNZ should initiate contacts with the host supervisors
where New Zealand insurers have large market shares to understand the
risks to New Zealand-owned operations in those markets. The RBNZ should
also increase its engagement with insurers with substantial overseas
operations.
26. Cross-border Cooperation
and Coordination on
Crisis Management
Due to the high level of cross border activities, the RBNZ should prioritize its
crisis management policy and procedures, while studying how best to
achieve IPSA’s principle of policyholder protection in crisis.
Due to the high catastrophe risk in the New Zealand market, the RBNZ
should require insurers to establish and maintain contingency plans and
procedures based on their specific risks in use for going- and gone-concern
situations.
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Authorities’ Responses to the Assessment
The New Zealand authorities (the FMA, MBIE, RBNZ, and Treasury) wish to thank the IMF and
the insurance assessors for their thorough assessment of New Zealand’s compliance with the
IAIS Core Principles for Effective Insurance Supervision. The New Zealand authorities welcome
the opportunity to comment on the IMF’s Detailed Assessment Report (DAR).
The New Zealand authorities strongly support the FSAP as a means of promoting and
improving both the quality of financial sector regulation and the outcomes that this
regulation aims to achieve.
At the time of the last New Zealand FSAP conducted during 2003–04, regulation of the
insurance sector was very limited. In part as a response to the recommendations of the
previous FSAP, a working group was established in 2005 to examine the existing regulatory
frameworks for nonbank financial institutions and financial products. As a consequence of that
review, the Reserve Bank became the prudential supervisor for the insurance sector with the passage
of the IPSA. The review also contributed to a major overhaul of New Zealand’s approach to capital
market regulation, and the establishment of the FMA as a general market conduct regulator with
responsibilities encompassing the insurance sector.
The DAR has acknowledged that the implementation of IPSA and a prudential regime for the
insurance sector was a major achievement. The New Zealand authorities are pleased that the
insurance assessors have judged that this new regulatory framework is reasonably “well-developed.”
The implementation of IPSA was a very demanding exercise for the Reserve Bank, particularly
in the initial licensing phase which lasted three years. In addition, the 2010–11 Canterbury
earthquakes were an unfortunate but timely reminder of the significance of robust solvency
requirements, given the importance of catastrophe risk in the New Zealand market. Today, the
insurance sector is in a much better position to absorb a shock of this nature.
Following the completion of the licensing process in September 2013 the Reserve Bank began
developing and embedding a supervisory framework appropriate for New Zealand conditions
that broadly aligns with the approach taken for the prudential regulation and supervision of
the banking sector.
For the banking sector there is a long-standing ‘three pillar’ approach tied to the interplay
between self, market and regulatory discipline. This framework is also appropriate for achieving
the Reserve Bank’s statutory objectives for the insurance sector – to promote a ‘sound and efficient
insurance sector,’ and to ‘promote public confidence in the sector.’ This systemic focus means the
Reserve Bank does not direct its policy and supervisory resources at eliminating all the risks that face
individual insurers. Moreover, IPSA is not a zero failure regime – i.e., the Reserve Bank is not required
to ensure that no insurer will fail or that there will be no losses to policyholders.
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The supervisory counterpart to this emphasis on self and market discipline is a risk-based
approach reflecting the fact that not all insurers are equally important to the sector or the
wider financial system. Moreover, on-site inspections are an inherently more intrusive and costly
form of supervision and can, in the Reserve Bank’s view, potentially undermine the incentives on the
insurance firm’s own directors and management to identify and manage risks.
The DAR has noted a number of areas where the prudential regime falls short of full
observance with the IAIS’s core principles. In part, this is due to the on-going implementation of
supervisory initiatives in a regime that is still maturing (such as supervisory risk assessments and
regulatory reporting by insurers). In other areas the DAR acknowledges the gap in full observance is
a function of the emphasis the Reserve Bank places on self and market discipline, reflected in the
limited scope for on-site inspections and the relatively lightly resourced approach to supervision
more generally.
The New Zealand authorities note the recommendations designed to improve the Reserve
Bank’s three pillar approach to insurance regulation. Examples relating to improving self and
market discipline include enhanced disclosure from insurers and the Reserve Bank, and the
expansion of powers to develop standards for corporate governance, risk management and
internal controls.
A number of the IMF’s recommendations are helping to inform the review of the statutory
framework for insurance prudential regulation that is currently underway. The terms of
reference for this review were released in April 2016 and an Issues Paper was released in March
2017. The review aims to assess the performance of IPSA to ensure it continues to create the
preconditions for a cost-effective supervisory regime that helps achieve a sound and efficient
insurance sector.
The New Zealand authorities note the IMF’s recommendations regarding conduct regulation
for insurance, bearing in mind that the FMA’s reach into insurance is limited to incidences of
mis-selling or misrepresentations and the regulation of financial advice as it relates to
insurance agents and brokers.
The review of the FA Act that is currently underway will go some way to address the IMF’s
recommendations relating to intermediaries. However, it is acknowledged that these changes
will not affect conduct regulation of insurers themselves or non-advised sales of insurance.
The New Zealand authorities will, as priorities allow, consider the IMF’s recommendations
and examine the issues relating to the broader question of the scope of conduct regulation
for insurance considering all aspects of the insurance product life cycle.
As the law reforms for financial advisers are completed, the FMA will reassess resource
requirements and the need to consider any insurance-specific work alongside its other
strategic priorities and programme of work.
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